The LIBOR Market Model in Practice (The Wiley Finance Series)

This book provides a full practitioner's approach to the LIBOR Market Model. It adopts the specific language of a quantitative analyst to the largest possible level and is one of first books on the subject written entirely by quants. The book is divided into three parts - theory, calibration and simulation. New and important issues are covered, such as various drift approximations, various parametric and nonparametric calibrations, and the uncertain volatility approach to smile modelling; a version of the HJM model based on market observables and the duality between BGM and HJM models. Co-authored by Dariusz Gatarek, the 'G' in the BGM model who is internationally known for his work on LIBOR market models, this book offers an essential perspective on the global benchmark for short-term interest rates.

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All Customer Reviews
Average Customer Review:
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Helpful addition to comprehension and discussion, but with frustrating errors....not for amatures, 2007-04-02
Pricing interest rate derivatives with short term interest rate models has been like a game of FANTAN for nearly a decade, until the LIBOR Market Model (LMM, aka the BGM model) came along. Before, everyone was using Vasicek and periodically someone would sweep the table of everyone's winnings. In the discrete world of increasingly complex structured trades and advancing "mark to market" mandates driven by bank regulators and BASEL II, the seat of the pants confessions of exotic interest rate traders using cobbled together non-published short term interest rate models for valuation fell under justified suspicions.

Along comes BGM (Brace-Gatarek-Maksymiuk)....while not exactly "to the rescue" giant sighs of relief were expelled worldwide as it has been widely adopted, as the ghostly hand of Fischer Black almost endorses it from beyond.

BGM is especially beloved by those who have to price complex derivatives and exotics because fundamental inputs are a snap to observe: a set of LIBOR forward rates. (Actually, anyone should love this feature). Then the fun starts, each forward rate is modelled by a (pesky, defensible, arguable) lognormal process first made famous and advocated by Fischer Black. The LMM (BGM) model therefore is simplistically looked at as a collection of little Black models. The trouble is, how do we collect them and calibrate them?

So it isn't just that simple, and this book explains in more detail just what the BGM model is, explores uses and limitations, etc.

Use the "LOOK INSIDE" feature to see the contents, but briefly there are three parts - theory, calibration and simulation. Drift is the topic of the day, and BGM don't disappoint. The parametric and nonparametric calibrations section is impenetrable to me, but this isn't my space.

Smile modelling has gotten into a chant at a football match: "uncertain volatility approach" shouts one side, "ARCH, GARCH, FART" shouts the other. Whatever. If you really want to dig into the volatility argument I suggest Knight & Stachell's third edition of "Forecasting Volatility" but you'll need your head examined before you can keep the players straight and need a scorecard handy. A discussion and comparison of HJM (Heath-Jarrow-Morton) in comparison and contrast with BGM is covered here.

Okay, the problems: this book is written in Engrishlovakian, not English. The copy editor should be shot.

There are lots, and I mean LOTS of typos, of which about 50% are easy to figure out what was intended. The other 50% enjoy too high an uncertainty coefficient to be comprehensible. An ERRATA sheet should be inserted into copies of future shipments ASAP.

Which leads me to my gigantic Grand Canyon-size hole in my knowledge: I just skip about 60% of the equations I read in any book, expecting the narrative to support what is explicit in the equations. I have no idea if these equations are edited correctly, and I suspect they are better than the English...but on the other hand, the English is so poor it makes you suspect the whole darn thing.

Who is this book for: general quantfin readers like me will find this tough sledding, this is a printed whiteboard and marker walk through of BGM from start to finish with current state-of-the-art discussions (with unfortunately a lot of whiteboard sloppiness mapped into the "book" state space). I suspect that as a conversation among experts, this book is a nice round-up straight from the source. Experts can probably see past the errors easier than others and both find it sloppy, but still comprehensible. I would dis-recommend this book for a clueless beginner, as the text assumes a readership pretty familiar with the complex and not-inconsiderably large discussion of forward rate and term structure models. For example, maximum smoothness of cubic splines are pretty much assumed and quite possibly laughed at by this crowd.

James "Not-Vasichek"

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