A Multicurve Cross-Currency LIBOR Market Model

Author:

Wamwea Charity1ORCID,Ngare Philip2,Mbele Bidima Martin Le Doux3

Affiliation:

1. Department of Statistics and Actuarial Sciences, Jomo Kenyatta University of Agriculture and Technology, Kenya

2. School of Mathematics, The University of Nairobi, Kenya

3. Department of Mathematics, University of Yaoundé I, Cameroon

Abstract

After the dawn of the August 2007 financial crisis, banks became more aware of financial risk leading to the appearance of nonnegligible spreads between LIBOR and OIS rates and also between LIBOR of different tenors. This consequently led to the birth of multicurve models. This study establishes a new model; the multicurve cross-currency LIBOR market model (MCCCLMM). The model extends the initial LIBOR Market Model (LMM) from the single-curve cross-currency economy into the multicurve cross-currency economy. The model incorporates both the risk-free OIS rates and the risky forward LIBOR rates of two different currencies. The established model is suitable for pricing different quanto interest rate derivatives. A brief illustration is given on the application of the MCCCLMM on pricing quanto caplets and quanto floorlets using a Black-like formula derived from the MCCCLMM.

Funder

Pan African University Institute of Basic and Applied Sciences Scholarship

Publisher

Hindawi Limited

Subject

Applied Mathematics

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