Suppose you are given the following SDE for the instantaneous spot rate: drt = rtdWt (20.52) where
Question:
drt = σrtdWt (20.52)
where the Wt is a Wiener process under the real-world probability and the σ is a constant volatility. The initial spot rate r0 is known to be 5%.
(a) What does this spot-rate dynamics imply?
(b) Obtain a PDE for a default-free discount bond price B(t, T) under these conditions.
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Consider the process dr t r t dW t with r 0 005 a The spot rate dynamics is a martingale under ...View the full answer
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Related Book For 
An Introduction to the Mathematics of Financial Derivatives
ISBN: 978-0123846822
3rd edition
Authors: Ali Hirsa, Salih N. Neftci
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