Black-Swaption

reference number
Version
publication date
author
affiliation
email address
last revised date
references

copyright THC 2003. All rights reserved by Thomas Ho Company, New Yo

32 classification#
60204
2.0
level intermediate
Instructions
Jun-03
Use "cspline_interp" function of Xnumbers freeware packag
Hanyang Financial Engineering Lab.
Unzip xnumber31.zip at local directory (D:). 1) Open Excel
Hanyang University
3) Once in the Addins Manager, search for and select XNU
leesb@hanyang.ac.kr
input notional principal, swaption maturity, swap tenor, c
Mar-04
output swaption value
Jamshidian, F., 1989, An Exact Bond Option Formula, Journal of Finance , Vol.44, 205-209.
Ch. 6 of "The Oxford Guide to Financial Modeling " by Thomas S.Y. Ho and Sang Bin Lee, 20

Descriptions
financial model class
issuer/modeler
model type
risk sources
risk distribution
economic assumptions
technical assumptions
key words
Links
data
financial models
freeware
Inputs
notional principal
swaption maturity (year)
tenor of swap (year)
total maturity (year)
compounding frequency/year
the number of periods
time increment
strike
volatility of forward swap rate

Implied Volatility Surface: Calibrating the Models

practitioner
Price Quotes of Benchmark Securities
forward swap rate
lognormal
perfect capital market
continuous compounding interest rate
arbitrage-free interest rate model

http://www.federalreserve.gov/
7. Bond Arithmetic, 8. Bond Model
http://digilander.libero.it/foxes/

F
OT
ST
T
m
n
dt
K

time period (year)

yield curve (continuous compounding)

10000
5
3
8
2
16
0.5
######
0.2
0
0.05

T=OT+ST, 0 < T 10, The maximum total maturity is 10, that is, we can cho
We can choose the compounding frequency among 1, 2, and 4.
n=Tm, 0 < n 40, The maximum number of periods is 40 since the maximu
dt = T/n

1
0.05

2
0.05

3
0.05

4
0.05

5
0.05

6
0.05

2.5
######
######
######
######
######

3
######
######
######
######
######

Outputs
swaption value

######

Interim Calculations
adjusted time period (t-year)
t
0
0.5
1
1.5
2
interpolated yield curve
r(t) ###### ###### ###### ###### ######
discount function
P(t) ###### ###### ###### ###### ######
one period forward rate
f(t-dt,t)
###### ###### ###### ######
one period forward price
F(t-dt,t)
###### ###### ###### ######
zero-coupon bond price with t-maturity B(t) ###### ###### ###### ###### ######
checking swap period

forward discount function

the last discount function
calculate A
forward swap rate
d1
d2

######
######
######

0
0
0

0
0
0

######
###### swaption
######

0
0
0
mn

0
0
0

m P (t ) R
i 1

0
0
0

0
0
0

0
0
0

N ( d1 ) R X N ( d 2 )

L A RF N (d1 ) RX N (d 2 )
where
A
d1

1 mn
P(ti ) : the value of a contract that pays 1/m at times ti , (1 i
m i 1
ln RF RX 2T * 2

T*

d 2 d1 T *

hts reserved by Thomas Ho Company, New York, NY. USA

www. thomasho.com

tom.ho@thomasho.com

e_interp" function of Xnumbers freeware package to interpolate the yield curve and volatility curve.
ber31.zip at local directory (D:). 1) Open Excel 2) Select <Addins...> from the <Tools> menu
he Addins Manager, search for and select XNUMBERS.XLA 4) Click OK and have fun!
onal principal, swaption maturity, swap tenor, compounding frequency, strike, volatility of forward swap rate, initial yield curve

ormula, Journal of Finance , Vol.44, 205-209.

ng " by Thomas S.Y. Ho and Sang Bin Lee, 2003, Oxford University Press

maximum total maturity is 10, that is, we can choose both swaption maturity and tenor of swap arbitrarily on condition that the sum of them is less than or e
ding frequency among 1, 2, and 4.
mum number of periods is 40 since the maximum values of total maturity and compounding frequency are 10 and 4 respectively.

7
0.05

8
0.05

9
0.05

10
0.05

3.5
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######

4
######
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######

4.5
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######

5
######
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######
######

5.5
######
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6
######
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######

6.5
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7
######
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######

7.5
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8
######
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8.5
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9
######
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######

0
0
0

0
0
0

0
0
0

0
0
0

R X N (d 2 )

d 2 )

f a contract that pays 1/m at times ti , (1 i mn)

###### ###### ###### ###### ###### ######

0
0
0
0
0
######
###### ###### ###### ###### ###### ######

0
0
0

0
0
0

p rate, initial yield curve

y on condition that the sum of them is less than or equal to 10.

are 10 and 4 respectively.

9.5
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10
######
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10.5
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11
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11.5
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12
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12.5
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13
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13.5
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14
######
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14.5
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15
######
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0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

15.5
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######

16
######
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16.5
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17
######
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17.5
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18
######
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18.5
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19
######
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19.5
######
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20
######
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######

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0