Hidden Markov Models in Finance (International Series in Operations Research & Management Science)

A number of methodologies have been employed to provide decision making solutions globalized markets. Hidden Markov Models in Finance offers the first systematic application of these methods to specialized financial problems: option pricing, credit risk modeling, volatility estimation and more. The book provides tools for sorting through turbulence, volatility, emotion, chaotic events – the random "noise" of financial markets – to analyze core components. Cover......Page 0 Contents......Page 7 List of Contributors......Page 11 Biographical Notes......Page 13 Preface......Page 17 1. An Exact Solution of the Term Structure of Interest Rate Under Regime-Switching Risk......Page 22 2. The Term Structure of Interest Rates in a Hidden Markov Setting......Page 36 3. On Fair Valuation of Participating Life Insurance Policies With Regime Switching......Page 52 4. Pricing Options and Variance Swaps in Markov-Modulated Brownian Markets......Page 66 5. Smoothed Parameter Estimation for a Hidden Markov Model of Credit Quality......Page 90 6. Expected Shortfall Under a Model With Market and Credit Risks......Page 112 7. Filtering of Hidden Weak Markov Chain -Discrete Range Observations......Page 122 8. Filtering of a Partially Observed Inventory System......Page 142 9. An empirical investigation of the unbiased forward exchange rate hypothesis in a regime switching market......Page 154 10. Early Warning Systems for Currency Crises: A Regime-Switching Approach......Page 176 Back Matter......Page 206 A number of methodologies have been employed to provide decision making solutions to a whole assortment of financial problems in today's globalized markets. Hidden Markov Models in Finance by Mamon and Elliott will be the first systematic application of these methods to some special kinds of financial problems; namely, pricing options and variance swaps, valuation of life insurance policies, interest rate theory, credit risk modeling, risk management, analysis of future demand and inventory level, testing foreign exchange rate hypothesis, and early warning systems for currency crises. This book provides researchers and practitioners with analyses that allow them to sort through the random'noise'of financial markets (i.e., turbulence, volatility, emotion, chaotic events, etc.) and analyze the fundamental components of economic markets. Hence, Hidden Markov Models in Finance provides decision makers with a clear, accurate picture of core financial components by filtering out the random noise in financial markets. Cover -1 Contents 7 List of Contributors 11 Biographical Notes 13 Preface 17 1. An Exact Solution of the Term Structure of Interest Rate Under Regime-Switching Risk 22 2. The Term Structure of Interest Rates in a Hidden Markov Setting 36 3. On Fair Valuation of Participating Life Insurance Policies With Regime Switching 52 4. Pricing Options and Variance Swaps in Markov-Modulated Brownian Markets 66 5. Smoothed Parameter Estimation for a Hidden Markov Model of Credit Quality 90 6. Expected Shortfall Under a Model With Market and Credit Risks 112 7. Filtering of Hidden Weak Markov Chain -Discrete Range Observations 122 8. Filtering of a Partially Observed Inventory System 142 9. An empirical investigation of the unbiased forward exchange rate hypothesis in a regime switching market 154 10. Early Warning Systems for Currency Crises: A Regime-Switching Approach 176 Back Matter 206