OPTION PRICING WITH DYNAMICALLY CORRELATED STOCHASTIC INTEREST RATE

Long Teng, M Ehrhardt, Unther
2015 Acta Math. Univ. Comenianae   unpublished
In this work we review several option pricing models with stochastic interest rate and extend these models by incorporating a local time dependent correlation between the underlying and the interest rate. We compare the difference between using a constant and a dynamic correlation by analyzing some numerical benchmarks. Furthermore, we conduct experiments on fitting the pricing model to the market price. Our analysis shows that the option pricing within the Black-Scholes framework can not be
more » ... ework can not be improved significantly by incorporating stochastic interest rate even when using a nonlinear correlation term.
fatcat:lgp6f4jxifhqdkon7le4rjsxma