Equity swaps in a LIBOR market model

This study extends the BGM (A. Brace, D. Gatarek, & M. Musiela, 1997) interest rate model (the London Interbank Offered Rate [LIBOR] market model) by incorporating the stock price dynamics under the martingale measure. As compared with traditional interest rate models, the extended BGM model is...

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Bibliographic Details
Published in:The journal of futures markets 2007-09, Vol.27 (9), p.893-920
Main Authors: Wu, Ting-Pin, Chen, Son Nan
Format: Article
Language:English
Subjects:
Asset pricing
Calibration
Capital market
Equity
Equity swaps
Financial engineering
Interest rate swaps
Interest rates
LIBOR
Martingale
Mathematical finance
Stock prices
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Summary:This study extends the BGM (A. Brace, D. Gatarek, & M. Musiela, 1997) interest rate model (the London Interbank Offered Rate [LIBOR] market model) by incorporating the stock price dynamics under the martingale measure. As compared with traditional interest rate models, the extended BGM model is both appropriate for pricing equity swaps and easy to calibrate. The general framework for pricing equity swaps is proposed and applied to the pricing of floating‐for‐equity swaps with either constant or variable notional principals. The calibration procedure and the practical implementation are also discussed. © 2007 Wiley Periodicals, Inc. Jrl Fut Mark 27:893–920, 2007
ISSN:0270-7314
1096-9934
DOI:10.1002/fut.20270