Pricing Partners announced today that the award winning Price-it solution enhanced its derivatives pricing library to compute automatically volatility bias due to stochastic interest rates in hybrids models.
In a single asset equity (or fx or commodity) model that uses a stochastic interest rates, there is some additional volatility created by the stochastic drift. Hence, one cannot calibrate a single asset equity (or fx or commodity) model based on deterministic interest rates and use the resulting model parameters when combined with a stochastic interest rates model.
Leveraging some works published by Benhamou, Gruz and Rivoira and by Benhamou, Gobet and Miri, Pricing Partners’ solution can compute the correction thanks to stochastic interest rates in a hybrid model. This methodology has also been extended to other single asset models like Heston, Piterbarg, Andersen or SABR models to provide the first commercial truly generic hybrid engine.
Eric Benhamou, CEO of Pricing Partners comments: “Pricing Partners’ solution goes one step beyond anything done previously on hybrid modeling as it allows combining any single asset model with stochastic interest rates, accounting accurately for the bias due to stochastic interest rates. This is the ideal feature for users when pricing long dated deals where the bias is not negligible at all.”