Class #06:  Thursday 06-Dec-2012 and Saturday 08-Dec-2012

Questions for assignment due at the beginning of this class:

• Fixed income derivative questions (re-post 05-Dec-2012)

• Template for the HJM (re-posted on 02-Dec-2012)

• HJM and a call option (posted 23-Dec-2012)

Make sure to read this paper:

• Teaching note on HJM
SKIP the calculus and go straight to page 9

• Discounting example in Excel

• Template for 2nd half of class (please bring this)

• Note that the notation in the paper and our class are slightly different.  I'm using
a notation that we believe is more helpful.  To "translate" between the two, we
have:  The "f(0,1)" on p.9 of the paper is our "f(0,1,2)" in my notation.

questions.  Clark is reading it now and he is confusing me.

• Remember that ALL rates are given as CCRs.  Even a 6% one-year return
means using "exp(rt)" or "exp(0.06*1)"

• Remember you can discount with spot rates or with forward rates.  I've

• Once you make the HJM tree, do not mess with it.  Unlike equity options, you
don't want to play with the interest rate tree.  The reason is that the tree should
be arbitrage-free.  If you mess with it, there is no guarantee it will remain
arbitrage-free.

• To answer Q.2, do not mess with the rate tree.  Instead, right out payments you
expect to receive when holding this annuity.  If rates are capped, then the
payments are also capped.  Therefore, mess with the payments to reflect the
cap (and not the rates).

Other papers on interest rate derivatives:
• Haugh notes on HJM (lots of math)
• Benninga and Wiener
• Klose and Yuan

Screenshots of Mark's HJM model
• Screenshot #1 ( now one page only;  re-posted 02-Dec-2012 )

Class notes from the 1st half of class
• Printed 1 slide per page
• Printed 6 slides per page

Class notes from the 2nd half of class
• Printed 1 slide per page
• Printed 6 slides per page

Bring this file to class with you
• Excel Template with Monte Carlo