Pricing a Bermudan Swaption using the LIBOR Market Model: A LSM approach

Abstract

This study will focus on the pricing of interest rate derivatives within the framework of the LIBOR Market Model. First we introduce the mathematical and financial foundations behind the basic theory. Then we give a rather rigouros introduction to the LIBOR Market Model and show how to calibrate the model to a real data set. We use the model to price a basic swaption contract before we choose to concentrate on a more exotic Bermudan swaption. We use the Least Squares Monte Carlo (LSM) algorithm to handle the early exercise features of the Bermuda swaption. All major results are vizualised and the C++ implementation code is enclosed in appendix B.