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Volatility and Correlation: In the Pricing of Equity, FX and Interest-Rate Options (Wiley Series in Financial Engineering) 1st Edition

3 out of 5 stars 3 customer reviews
ISBN-13: 978-0471899983
ISBN-10: 0471899984
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Editorial Reviews

Review

"In this book Dr Rebonato brings his penetrating eye to bear on option pricing and hedging. In his usual intuitive style he critically examine a variety of approaches to equity, currency and interest-rate options. This book is full of practical insights that reflect a wealth of experience in applying these models. The book is a 'must read' for those who already know the basics of options and are looking for an edge in applying the more sophisticated approaches that have recently been developed.", Professor Ian Cooper, , London Business School#"This book is a blend of the theoretical, the practical, and the abstract, but always staying in contact with reality. I don't agree with everything in it, but it taught me a thing or two. Read it carefully and thoroughly.", Paul Wilmott, , Derivatives#"Volatility and correlation are at the very core of all option pricing and hedging. In this book, Riccardo Rebonato presents the subject in his characteristically elegant and simple fashion. He rightly emphasises the financial and economic assumptions which underpin the models, and gives salutary warnings against models which overfit the current structure of prices but which perform poorly in predicting future behaviour. A rare combination of intellectual insight and practical common sense.

Selected 3D graphs from the book are reproduced in colour at ftp.wiley.co.uk/pub/books/rebonato", Anthony Neuberger, Associate Professor, Institute of Finance and Accounting, London Business School#

From the Inside Flap

Volatility and Correlation in the Pricing of Equity, FX and Interest-Rate Options is split into three sections. In the first, an introduction is presented to the complex concepts of correlation and volatility encountered in equity/FX and interest-rate option pricing, aimed at providing practitioners with a better informed choice when deciding which models to utilise. This first part also highlights the fundamental conceptual difference between interest-rate volatility on the one hand, and of FX and equity volatility on the other. The author then moves on to the problem of smiles, with considerable emphasis placed on option pricing when markets are incomplete. This second part focuses on the need for end users to take an approach, at the same time practical and theoretically sound, when it comes to implementing the various models which can account for smiles. To this effect, many existing models are reviewed and several new, original approaches are presented. The author points out that the temptation of being seduced by the elegance of mathematical models must be tempered by the need to look at the financial mechanisms driving the dynamics of the specific derivative product. The analysis of the third part deals with the role of volatility and correlation in the context of interest-rate models. In particular, it covers in detail practical and powerful calibration techniques to caplet volatilities and correlation surfaces of the state-of-the-art BGM approach, and suggests criteria to choose the functional form for the all-important instantaneous volatility functions.
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Product Details

  • Series: Wiley Series in Financial Engineering (Book 15)
  • Hardcover: 360 pages
  • Publisher: Wiley; 1 edition (December 21, 1999)
  • Language: English
  • ISBN-10: 0471899984
  • ISBN-13: 978-0471899983
  • Product Dimensions: 6.3 x 1 x 9.4 inches
  • Shipping Weight: 1.3 pounds
  • Average Customer Review: 3.0 out of 5 stars  See all reviews (3 customer reviews)
  • Amazon Best Sellers Rank: #4,740,387 in Books (See Top 100 in Books)

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Top Customer Reviews

Format: Hardcover
Overall, I found this book interesting. There is nothing really new or unknown to quants or researchers working in this field but much of the material has actually not been written down in any other book, which makes this book useful.
There are some important points about hedging and pricing derivatives in a non Black Scholes world which are important but are nowhere to be seen in any textbook on options and/or mathematical finance. The author correctly stresses the distinction between real-world and implied statistical quantities.
Also, he gives a lot of common sense comments on questions like hedging with smiles, which are very helpful. Topics like changes of numeraire which are exposed in notoriously obscure ways in many mathematical finance textbooks are explained in simple terms with EXAMPLES. Examples illustrate eveyr point and this is perhaps what is lacking in other textbooks. I appreciated this a lot. Mathematical rigor is not the strong point of this book but I think it is an advantage rather than a drawback: it allows the reader to focus on important points which are not the mathematical ones in fact. However, there are some mistakes in the text from time to time.
However, there is something I feel very unconfortable with: the author does not mention/cite other peoples work in this field and seems to attribute to himself most of the results explained in the book. Anybody who has been working in the field in the last decade can easily associate lots of names with each of the points raised in the book but these names are nowhere to be seen. Does the author have a very limited view of the literature or is he deliberately not mentioning other peoples work? Perhaps a mixture of both.
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Format: Hardcover
The Black-Scholes model for pricing FX and equity options has become ubiquitous. However, it is always used with a pinch of salt. In particular, traders typically use different volatilities when pricing options with different strikes, a practice which makes no sense in the context of the model, but is a very effective way of compensating for its deficiencies. This is known as the smile effect from the shape of the volatility graph.
Rebonato's new book sets out to examine these deficiencies and presents various alternative models. For each model, he examines the validity of its assumptions and predictions, convincingly demonstrating that fear of jumps is a major cause of smiles.
The other major theme of the book is that volatility and correlation are quite different objects for interest rate derivatives than for FX and equity options. In the context of BGM models, he shows that the shape of the volatility function of forward rates is the major cause of decorrelation, rather than actual instantaneously uncorrelated movements.
This book is not a first book on mathematical finance but it is accessible and is a must read for anyone involved in the pricing of derivative products.
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Format: Hardcover
This book brings together many of the recent publications concerning the volatility surface. The work is interesting and points out many of the well known problems with pricing options in a non Black Scholes world. As is often the case with financial literature, it is more interesting from an academic perspective than from a practical one.
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