Volatility Structures of Forward Rates and the Dynamics of the Term Structure (original) (raw)

This chapter examines the volatility structures of forward rates and their implications for the dynamics of the term structure. It identifies conditions under which these dynamics can be captured by a two-dimensional state variable Markov process, thereby simplifying bond pricing. Utilizing simulation techniques and control variables, the chapter develops efficient pricing algorithms for various claims against the term structure, emphasizing the balance between analytical and numerical solutions based on different volatility scenarios.