Simulation of Yield curves in 2 currencies

afterthenews · July 20th, 2009, 3:40 pm

Hi,I want to calulate a portfolio VAR for a global portfolio with interest rate options cross currency - non linear payoff. As far I know most trees cannot be extended to include correlation. I want to simulate yield curves in different currencies. Does anyone know the best model for this?? I have heard that its possible like using a cross currency swaptions model. That would be great, even better if it were less involved to same computation time.Thanks.

Church · July 20th, 2009, 6:59 pm

If I remember correctly, there is a paragraph in Brigo & Mercurio that adressess this issue.

papatheo · July 21st, 2009, 3:30 pm

papatheo · July 21st, 2009, 3:35 pm

Look at chapter 14 in Brigo & Mercurio, they use the G2++ which has the nice feature of the analytic formulas for the bond prices and other ir instruments. The bad news is that is that you may end up with negative rates since the model assumes a gaussian distribution for the short rates. It is true that it is a bit hardto calibrate this model under the current market conditions (high vols - low rates).