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Petrus
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Joined: May 28th, 2004, 1:56 pm

Interest rate option (swaptions & caps/floors)

May 31st, 2004, 3:01 am

can someone please explain the significance of bp vol?for eg, if (fwd atm strike is 3.20% for a 2y2y swap) on a 2y2y atm swaption traded at 45% vols in the market. 1) what is the bp vol? what can one infer? and what is this signifincace? thank in adv
 
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Aaron
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Joined: July 23rd, 2001, 3:46 pm

Interest rate option (swaptions & caps/floors)

June 1st, 2004, 1:43 am

Basis point volatility is percentage volatility times current yield. 3.20% x 45% = 1.44% = 144 basis points. The question is whether you believe interest rate volatility or log interest rate volatility is more stable. In the former case, it makes sense to quote basis point volatility. In the latter, percentage volatility is natural.
 
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Petrus
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Joined: May 28th, 2004, 1:56 pm

Interest rate option (swaptions & caps/floors)

June 1st, 2004, 12:48 pm

Thanks Aaron for replying to my "silly qsn"In your reply, when you allude to ""whether you believe interest rate volatility or log interest rate volatility is more stable" are you referring to whether the rate is more incline towards a normal distribution or a log-normal distribution?May I ask also if the bpvol can be computed in the same way for an otm strike [say for the same example of 2y2y payer swaption using an otm strike of 3.40% and volatility of 50%] Thanks in advance.
 
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Aaron
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Joined: July 23rd, 2001, 3:46 pm

Interest rate option (swaptions & caps/floors)

June 1st, 2004, 11:40 pm

Yes, normal versus lognormal.Basis point volatility is defined with respect to the yield, not the strike. However, if you are computing from percentage volatility, and that is different for different strikes, you should multiply the percentage volatility for the appropriate moneyness option times the at-the-money yield.
 
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mrbadguy
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Joined: September 22nd, 2002, 9:08 pm

Interest rate option (swaptions & caps/floors)

June 3rd, 2004, 10:23 am

The basis point volatility is calculated as current yield rate * black volatility.Take this numerical example If current 1-year euribor is 2.37% and you suppose a B-vol of 11% your BPVOL is 0.26Once you obtain your Bpvol first thing is determining a std deviation range in basis points. And respectively upper and lower bound of range.Lower bound = yield rate + bpvol – sqrt(yield^2+bpvol^2)Upper bound= bpvol – yield+sqrt(yield^2+bpvol^2) Lower bound= 2,37%+ 0.26 – sqrt(2.37%^2+0.26^2) Upper bound= 0.26 – 2.37% + sqrt(2.37%^2+0.26^2)Rgds,
 
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Petrus
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Joined: May 28th, 2004, 1:56 pm

Interest rate option (swaptions & caps/floors)

June 3rd, 2004, 12:20 pm

Thanks so much Aaron and mrbadguy for your replies. Please pardon my ignorance on the subject. I really appreciate your repliesAaron- "percentage vol" would be the observable traded volatility in the market right? So in the following eg [say for the same example of 2y2y payer swaption using an otm strike of 3.40% and volatility of 50% where atm forward is 3.20%] bp vol = 50% times 3.20% - am i right? If I am correct, may I ask what is the significance of the bpvol? My hunch is that it tells you how much vol moves per bp of interest rates? does that sound insane?mrbadguy- black volatility is market traded volatility right?- may I trouble you to elaborate on the porpose of calculating the upper and lower bounds please.Thanks so much in advance
 
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quantie
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Joined: October 18th, 2001, 8:47 am

Interest rate option (swaptions & caps/floors)

June 3rd, 2004, 6:06 pm

andym has answered this a few times 1,2 & 3
 
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Cactus
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Joined: January 13th, 2004, 5:08 pm

Interest rate option (swaptions & caps/floors)

August 24th, 2004, 8:37 am

Hi,this is an old post, but I'll try to write some more. As far I can see, as someone has stated BP VoL=strike*Yield Vol (quoted on the broker page,i.e. ATM strike).If you want to calculate the BP Vol for an OTM strike, what you can do is one of the following: 1. otmBPVOL= strike*otmYield Vol2. otmBPVOL= sqrt(strike*ATMstrike)*otmYield Vol.I'm used to use the second version, but it's a kind of convention in my firm: maybe you have your comment!Regards!