Affine term structure models : a time-changed approach with perfect fit to market curves

We address the so-called calibration problem which consists of fitting in a tractable way a given model to a specified term structure like, e.g., yield or default probability curves. Time-homogeneous jump-diffusions like Vasicek or Cox-Ingersoll-Ross (possibly coupled with compounded Poisson jumps, JCIR), are tractable processes but have limited flexibility; they fail to replicate actual market curves. The deterministic shift extension of the latter (Hull-White or JCIR++) is a simple but yet efficient solution that is widely used by both academics and practitioners. However, the shift approach is often not appropriate when positivity is required, which is a common constraint when dealing with credit spreads or default intensities. In this paper, we tackle this problem by adopting a time change approach. On the top of providing an elegant solution to the calibration problem under positivity constraint, our model features additional interesting properties in terms of implied volatilities. It is compared to the shift extension on various credit risk applications such as credit default swap, credit default swaption and credit valuation adjustment under wrong-way risk. The time change approach is able to generate much larger volatility and covariance effects under the positivity constraint. Our model offers an appealing alternative to the shift in such cases.Comment: 44 pages, figures and table

Identification of Stochastically Perturbed Autonomous Systems from Temporal Sequences of Probability Density Functions

The paper introduces a method for reconstructing one-dimensional iterated maps that are driven by an external control input and subjected to an additive stochastic perturbation, from sequences of probability density functions that are generated by the stochastic dynamical systems and observed experimentally

Levy-Based Heath-Jarrow-Morton Interest Rate Derivatives: Change of Time Method and PIDEs

In this paper, we show how to calculate the price of zero-coupon bonds in a Heath-Jarrow-Morton (HJM) Lévy model of forward interest rates using the change of time method. We also derive partial integro-differential equations (PIDEs) for the values of swaps, caps, floors and options on them, swaptions, captions and floortions, respectively. We apply the change of time method to price the interest rate derivatives for the forward interest rates f(t, T) described by the stochastic differential equation driven by alpha-stable Lévy processes

Pricing options and variance swaps in Markov-Modulated Brownian markets

Robert J. Elliot and Anatoliy V. Swishchukhttp://www.springer.com/business/operations+research/book/978-0-387-71081-

Filtering hidden semi-Markov chains

Robert Elliott, Nikolaos Limnios and Anatoliy Swishchu