Managing value-at-risk for a bond using bond put options |
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Authors: | Griselda Deelstra Ahmed Ezzine Dries Heyman Michèle Vanmaele |
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Affiliation: | (1) Department of Mathematics, ISRO and ECARES, Université Libre de Bruxelles, CP 210, 1050 Brussels, Belgium;(2) Department of Financial Economics, Ghent University, Wilsonplein 5D, 9000 Gent, Belgium;(3) Department of Applied Mathematics and Computer Science, Ghent University, Krijgslaan 281, Building S9, 9000 Gent, Belgium |
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Abstract: | This paper studies a strategy that minimizes the Value-at-Risk (VaR) of a position in a zero-coupon bond by buying a percentage
of a put option, subject to a fixed budget available for hedging. We elaborate a formula for determining the optimal strike
price for this put option in case of a Vasicek stochastic interest rate model. We demonstrate the relevance of searching the
optimal strike price, since moving away from the optimum implies a loss, either due to an increased VaR or due to an increased
hedging expenditure. In this way, we extend the results of Ahn, Boudoukh, Richardson, and Whitelaw (1999). Journal of Finance, 54, 359–375] who minimize VaR for a position in a share. In addition, we look at the alternative risk measure Tail Value-at-Risk. |
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Keywords: | Value-at-Risk Bond hedging Vasicek interest rate model |
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