Work

Efficient Trees for CIR and CEV Short Rate Models

Year: 2007

Type: article

Abstract: This paper presents efficient binomial and trinomial trees for the Cox, Ingersoll, and Ross (CIR) and the constant-elasticity-of-variance (CEV) short rate models. We correct an error in the original square root transform of Nelson and Ramaswamy [1990], and modify their transform by truncating the tree exactly at the zero-boundary. This not only allows us to create computationally more efficient trees for the CIR square-root process, but also for the entire class of CEV models of the short rate. Our simulations show fast convergence and significantly improved performance of the truncated-tree approach over the Nelson-Ramaswamy approach.

Source: The Journal of Alternative Investments

DOI: 10.3905/jai.2007.688995

Authors: Sanjay K. Nawalkha, Natalia Beliaeva

Institutions: University of Massachusetts Amherst, Suffolk University

Language: English

Topic: Stochastic processes and financial applications

Subfield: Finance

Field: Economics, Econometrics and Finance

Domain: Social Sciences

Open Access status: green

OpenAlex ID: W3124929969

FWCI: 2.366

Cites: 38

Cited by: 24

Related to: 10