Intensity-based framework for optimal stop- ping problems
Financial derivatives commonly contain pre-mature termination clauses, which are embedded rights held by the holder or writer. Well known examples of these stopping rights include the early exercise right in American options, callable right in callable securities and pre- payment right in mortgage loans. In this paper, we show how to model the mortgagors prepayment in mortgage loans and issuers call in American warrant as event risks using the intensity based approach, where the propensity of prepayment or calling is modeled by the inten- sity of a Poisson process. We illustrate that the corresponding pricing formulation resembles the penalty approximation approach commonly used in the solution of the linear complementarity formulation of an optimal stopping problem. We obtain several theoretical results on the prepayment strategies of mortgage loans and calling polices of American warrants. We also propose robust second order accurate numerical schemes for solving the penalty formulation of an optimal stopping problem.
linear complementarity formulation mortgage prepayment callable feature intensity approach penalty method event risks
Min Dai Yue Kuen Kwok Hong You
National University of Singapore Hong Kong University of Science and Technology
国际会议
昆明
英文
1-23
2005-07-05（万方平台首次上网日期，不代表论文的发表时间）