Measuring Interest Rate Risk with Embedded Option Using HPL-MC Method in Fuzzy and Stochastic Environment

Tang, Enlin; Wei, Du

doi:10.1155/2020/7410909

Cited by 4 publications

(4 citation statements)

References 12 publications

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“…When simulating the interest rate path, the selected interest rate model should not only conform to the assumed stochastic process characteristics but also conform to the initial interest rate term structure. Then, based on cash flow and discount factor, P + and P − are obtained, and then the effective duration and effective convexity are calculated [ 10 , 11 ].…”

Section: Analysis On the Option Characteristics Of Housing Mortgage Loanmentioning

confidence: 99%

Research on Interest Rate Risk of Housing Mortgage Loan Based on Computer Simulation

Tang

2021

Computational Intelligence and Neuroscience

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In recent years, with the rapid increase of the business volume of housing mortgage loans of commercial banks, the risk of prepayment is increasingly exposed. Prepayment will have a great impact on the duration and convexity of housing mortgage loans of commercial banks and then bring difficulties to the asset liability management of banks. Therefore, empirical research on the changes of duration and convexity of housing mortgage loans caused by prepayment when the market interest rate changes is of great significance for commercial banks to manage interest rate risk exposure. Based on the analysis of the option characteristics of prepayable housing mortgage loan, the CIR model with GARCH(1, 1) is selected to describe the interest rate change path, and the computer simulation method is used to calculate OAS and then calculate the effective duration and effective convexity of housing mortgage loan under different prepayment rates, so as to understand the interest rate risk of housing mortgage loan in the presence of embedded option.

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Section: Analysis On the Option Characteristics Of Housing Mortgage Loanmentioning

confidence: 99%

Research on Interest Rate Risk of Housing Mortgage Loan Based on Computer Simulation

Tang

2021

Computational Intelligence and Neuroscience

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“…When the interest rate changes little, that is, between R * and R * * , the effect of asset liability management is very good, the net assets remain stable, and there is no interest rate risk exposure. However, when the interest rate falls below R * * , the depositors will not be affected, the borrowers will repay in advance, and the net assets will begin to decline, especially when the interest rate falls below R 1 , the net asset is E 1 , significantly less than the initial net assets E * ; similarly, when the interest rate rises to R * , the lender will not be affected, and the depositor withdraws the deposit in advance, especially when the interest rate rises to R 2 , the net assets of the bank become E 2 , significantly less than the initial net assets E * [31].…”

Section: E Mechanism Of the Effect Of Embedded Options On Thementioning

confidence: 99%

Pricing of Embedded Options in Bank Deposits and Loans Based on Jump‐Diffusion Interest Rate Model

Tang

2021

Complexity

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The marketization of interest rate is an inevitable requirement for China’s financial reform and joining the WTO to connect with the international financial market. It is also an important link to improve the marketization degree of China’s financial system. The marketization of interest rate in China is gradually advancing according to its preset mode. In the process of interest rate marketization, an unavoidable problem is that while the interest rate marketization gives the commercial banks the autonomy of capital pricing, the fluctuation of interest rate is more and more frequent. However, due to the fluctuation of interest rate, the loan as the main assets of commercial banks will be prepayed by borrowers, and the time deposit as the main liabilities of commercial banks will be withdrawn by depositors in advance; that is, embedded options are implied in asset liability items, which makes it difficult for commercial banks to accurately calculate the actual interest margin of deposits and loans and manage the interest rate risk. Therefore, it is of great significance to identify and price such embedded option value. On the basis of identifying and decomposing the embedded options in deposit and loan of commercial banks, according to the change characteristics of deposit and loan interest rate of Chinese commercial banks, this paper chooses jump-diffusion interest rate model to describe the change of benchmark interest rate of deposit and loan in China and demonstrates the advantages of this model compared with other models. Based on Monte Carlo simulation technology, the embedded options of five-year fixed deposit and ten-year prepayable loan in China are priced. On this basis, it points out that the real interest margin of commercial bank’s deposit and loan should be the nominal interest margin minus the value of deposit and loan’s embedded options. In the process of interest rate risk management, we should pay attention to the existence of embedded options and carry out effective management.

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“…As we normally understand that by the effect of interest rate risk, commercial banks earn money by lending, investing and borrowing financial assets in their business. Tang and Du [17] stated that interest rate risk can cause unfavourable effects on the economic value of the bank. Also as per the recommendation of the Basel committee on banking supervision (2004), it is clear that interest rate risk not only affects the economic value but also have an effect on the earning of the bank.…”

Section: Prerequisite Conceptsmentioning

confidence: 99%

A Multi-Objective Risk Return Trade off Models for Banks: Fuzzy Programming Approach

Chaudhury¹,

Islam²

2021

MMEP

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The main focus of banking sector is on the risk management. Asset liability management (ALM) is one of the key processes to manage the risks. The objective of this paper is to develop a multi-objective asset liability optimization model for banks with the maximization of market value of equity and minimization of duration gap as the objective function. Several liquidity ratios, concept of duration and convexity are considered to manage the risk properly. Interest rate risk and liquidity risk are two major considerations in both the regulation and management of a bank. As we know that, with the fluctuation of the market interest rate, the market value of assets and liabilities of a bank changes and that affects a change in owner’s equity. In order to overcome such type of situation here we will use the concept of duration and convexity to manage the interest rate risk. In case of liquidity risk the shortage of liquidity may also put that bank in risk and simultaneously it is very crucial to manage the cash flow properly. So here we will use some major liquidity ratios to manage the liquidity risk. We will take the help of fuzzy programming technique to solve our model properly. A numerical example is given to illustrate our model by considering a hypothetical bank balance sheet. Also we will compare the result obtained by fuzzy technique with result obtained by a non fuzzy based technique.

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Measuring Interest Rate Risk with Embedded Option Using HPL-MC Method in Fuzzy and Stochastic Environment

Cited by 4 publications

References 12 publications

Research on Interest Rate Risk of Housing Mortgage Loan Based on Computer Simulation

Research on Interest Rate Risk of Housing Mortgage Loan Based on Computer Simulation

Pricing of Embedded Options in Bank Deposits and Loans Based on Jump‐Diffusion Interest Rate Model

A Multi-Objective Risk Return Trade off Models for Banks: Fuzzy Programming Approach

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