An interest rate is the rate at which interest is paid by a borrower (debtor) for the use of money that they borrow from a lender (creditor).

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Setting the r in put-call parity?

Put-call parity is given by $C + Ke^{-r(T-t)} = P + S$. The variables $C$, $P$ and $S$ are directly observable in the market place. $T-t$ follows by the contract specification. The variable $r$ is ...
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1answer
329 views

How to value a floor when a loan is callable?

Certain bank loans pay a spread above a floating-rate interest rate (typically LIBOR) subject to a floor. I would like to find the value of this floor to the investor. Assume for this example that ...
3
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3answers
903 views

What are the limits of bond portfolio immunization against interest rate changes?

I'm currently reading through an article on bond portfolio immunization against changes in the interest rate. I learned that the immunization can be done against instant changes in interest rate ...
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1answer
334 views

How to reduce variance in a Cox-Ingersoll-Ross Monte Carlo simulation?

I am working out a numerical integral for option pricing in which I'm simulating an interest rate process using a Cox-Ingersoll-Ross process. Each step in my Monte Carlo generated path is a ...
13
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2answers
876 views

Why isn't the Nelson-Siegel model arbitrage-free?

Assume $X_t$ is a multivariate Ornstein-Uhlenbeck process, i.e. $$dX_t=\sigma dB_t-AX_tdt$$ and the spot interest rate evolves by the following equation: $$r_t=a+b\cdot X_t.$$ After solving for $X_t$ ...
12
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1answer
276 views

Which interest rate model for which product

Given the multitude of existing interest rate models (ranging from simple to very complex) it would be interesting to know when the additional complexity actually makes sense. The models I have in ...
6
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2answers
1k views

Why is the SABR volatility model not good at pricing a constant maturity swap (CMS)?

I have heard that the SABR volatility model was not good at pricing a constant maturity swap (CMS). How is that?
2
votes
4answers
210 views

Why can sometimes stock prices rise when interest rates rise?

Basic macroeconomics theory states that stock prices are inversely correlated with interest rates, i.e., when interest rates rise, borrowing is more costly, and thus companies with huge debt would be ...
6
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4answers
297 views

Government bonds with negative yield

In the recent time-series of bonds issued by (for example) Germany, Austria and France we see an unfamiliar phenomenon: negative yields. This is mainly the issue on the short end of the yield curve. ...
4
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1answer
6k views

Deriving spot rates from treasury yield curve

I've been experimenting with bond pricing using easily available data (treasury auction prices and treasury yield curves on treasury direct). At first I assumed that I could use the components yield ...
2
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3answers
84 views

Interpolating probabilities of default

I have a table of cumulative probabilities of default of industrial bonds, in time and credit rating. It is similar to S&P whitepaper here. Basically, it looks like this (sample numbers): ...
2
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1answer
211 views

Risk-Free Rate determinant in CAPM

I have trouble understanding what type of maturity to use when calculating CAPM. My professor uses the 3-Month risk-free rate to ...
2
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2answers
151 views

Why is USD LIBOR used for USD denominated securities?

I am just starting on Interest Rate Swaps & curve construction. While reading few materials on Interest Rate Swap, it's indicated for e.g. "Floating Coupon Index: 6 month USD LIBOR". LIBOR is ...
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1answer
209 views

inflation > interest rate? [closed]

Currently, the federal reserve interest rate is 0-0.25%, and the inflation is 2-3%. Does this contradict the no-arbitrage principle? (The arbitrage being: borrow money at 0.25% and invest it in the ...