simple example Libor Market Model (BGM)

Libor Market Model is a model where Libor forwards have log-normal distribution in their’s respective probability measures (called T-measure)

example of Libor Market Model with just 2 forwards:

 P_3(t) is a price at time t of zero-coupon bond paying at T_3

T_1, maturity T_2]

Libor Market Model

Libor Market Model

lets take a numeraire=bond P_3(t)

in LMM forward P_3(t) measure de:
W_1(t) and W_2(t) are usually correlated

 dW_1(t)dW_2(t)=\rho dt

this drift(t) can be calculated (idea : Facebook

Posted in OTC derivatives valuation Tagged with: