Actuarial Outpost > MFE yield volatilty of a BDT tree
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#1
10-28-2008, 09:56 AM
 Mc Lovin Member SOA Join Date: Jan 2008 Location: none of your beeswax Studying for the english exam College: HOOKED ON PHEONIX WURKED FOR ME! Favorite beer: michelob - aka grandpas old cough syrup Posts: 1,087
yield volatilty of a BDT tree

Can someone explain these? I am having trouble following and would like to know what is expected for the exam. Thanks!
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#2
10-28-2008, 10:55 AM
 Eagle.K.Y Member Join Date: Sep 2006 Posts: 198

in general, u just need to remember, in one column(year) of tree, the ratio of 2 nodes "next to" each other(upper node and down node) is exp{2*sigma_i*sqrt(h)}.

But, be careful, such equation is assumed that sigma is for n-year opt on h-year bond. So, if the question asks about n-year opt on m-year bond, where m is not equal h, you should find the forward rates(upper and lower) corresponding to m-year bond, then to find the sigma. (good example in ASM PracExam10, cant remember question index, but question is asking 3-month opt on 6-month bond, where h=3month in the BDT tree)

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