SFB 303 Discussion Paper No. B-308

Author: Miltersen, K., K. Sandmann, and D. Sondermann

Title: Closed Form Solutions for Term Structure Derivatives with Log-Normal Interest Rates

Abstract: We derive a unified model which gives closed form solutions for caps and floors written on interest rates as well as puts and calls written on zero-coupon bonds. The crucial assumption is that forward rates with a compounding period that matches the contract, which we want to price, is log-normally distributed. Moreover, this assumption is shown to be consistent with the Heath-Jarrow-Morton model for a specific choice of volatility.

Keywords: Log-normal, nominal-compounding rates, Heath-Jarrow- Morton model

JEL-Classification-Number: G13

Creation-Date: March 1994
URL: ../1994/b/bonnsfb308.pdf

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