Price embedded option on floating-rate note for Hull-White interest-rate tree

`[`

adds optional name-value pair arguments. `Price`

,`PriceTree`

]
= optemfloatbyhw(___,`Name,Value`

)

Define the interest-rate term structure.

Rates = [0.03;0.034;0.038;0.04]; ValuationDate = 'Jan-1-2012'; StartDates = ValuationDate; EndDates = {'Jan-1-2013'; 'Jan-1-2014'; 'Jan-1-2015'; 'Jan-1-2016'}; Compounding = 1;

Create the `RateSpec`

.

RateSpec = intenvset('ValuationDate', ValuationDate, 'StartDates',... StartDates, 'EndDates', EndDates,'Rates', Rates, 'Compounding', Compounding)

`RateSpec = `*struct with fields:*
FinObj: 'RateSpec'
Compounding: 1
Disc: [4x1 double]
Rates: [4x1 double]
EndTimes: [4x1 double]
StartTimes: [4x1 double]
EndDates: [4x1 double]
StartDates: 734869
ValuationDate: 734869
Basis: 0
EndMonthRule: 1

Build the HW tree using the following:

VolDates = ['1-Jan-2013'; '1-Jan-2014'; '1-Jan-2015';'1-Jan-2016']; VolCurve = 0.01; AlphaDates = '01-01-2016'; AlphaCurve = 0.1; HWVolSpec = hwvolspec(RateSpec.ValuationDate, VolDates, VolCurve,... AlphaDates, AlphaCurve); HWTimeSpec = hwtimespec(RateSpec.ValuationDate, VolDates, Compounding); HWT = hwtree(HWVolSpec, RateSpec, HWTimeSpec)

`HWT = `*struct with fields:*
FinObj: 'HWFwdTree'
VolSpec: [1x1 struct]
TimeSpec: [1x1 struct]
RateSpec: [1x1 struct]
tObs: [0 1 2 3]
dObs: [734869 735235 735600 735965]
CFlowT: {[4x1 double] [3x1 double] [2x1 double] [4]}
Probs: {[3x1 double] [3x3 double] [3x5 double]}
Connect: {[2] [2 3 4] [2 3 4 5 6]}
FwdTree: {[1.0300] [1.0562 1.0381 1.0202] [1x5 double] [1x7 double]}

Define the floater instruments with the embedded call option.

Spread = 10; Settle = 'Jan-1-2012'; Maturity = {'Jan-1-2015';'Jan-1-2016'}; Period = 1; OptSpec = {'call'}; Strike = 101; ExerciseDates = 'Jan-1-2015';

Compute the price of the floaters with the embedded call.

```
Price= optemfloatbyhw(HWT, Spread, Settle, Maturity, OptSpec, Strike,...
ExerciseDates)
```

`Price = `*2×1*
100.2800
100.3655

`HWTree`

— Interest-rate tree structurebinomial tree structure

Interest-rate tree specified as a structure by using `hwtree`

.

**Data Types: **`struct`

`Spread`

— Number of basis points over the reference ratenonnegative integer | vector of nonnegative integers

Number of basis points over the reference rate specified as
a vector of nonnegative integers for the number of instruments (`NINST`

)-by-`1`

).

**Data Types: **`single`

| `double`

`Settle`

— Settlement dates of floating-rate note`ValuationDate`

of BDT Tree (default) | serial date number | vector of serial date numbers | date character vector | cell array of date character vectorsSettlement dates of floating-rate note specified as serial date numbers or date character
vectors using a `NINST`

-by-`1`

vector of dates.

The `Settle`

date for every floating-rate note with an
embedded option is set to the `ValuationDate`

of the HW tree. The
floating-rate note argument `Settle`

is ignored.

**Data Types: **`double`

| `cell`

| `char`

`Maturity`

— Floating-rate note maturity dateserial date number | vector of serial date numbers | date character vector | cell array of date character vectors

Floating-rate note maturity date specified as serial date numbers
or date character vectors using a `NINST`

-by-`1`

vector
of dates.

**Data Types: **`double`

| `cell`

| `char`

`OptSpec`

— Definition of option character vector | cell array of character vectors

Definition of option as `'call'`

or `'put'`

specified
as a `NINST`

-by-`1`

cell array of
character vectors for `'call'`

or `'put'`

.

**Data Types: **`cell`

| `char`

`Strike`

— Option strike price valuesnonnegative integer | vector of nonnegative integers

Option strike price values specified nonnegative integers using
as `NINST`

-by-`NSTRIKES`

vector
of strike price values.

**Data Types: **`single`

| `double`

`ExerciseDates`

— Exercise date for option (European, Bermuda, or American) serial date number | vector of serial date numbers | date character vector | cell array of date character vectors

Exercise date for option (European, Bermuda, or American) specified
as serial date numbers or date character vectors using a `NINST`

-by-`NSTRIKES`

or `NINST`

-by-`2`

vector
of for the option exercise dates.

If a European or Bermuda option, the

`ExerciseDates`

is a`1`

-by-`1`

(European) or`1`

-by-`NSTRIKES`

(Bermuda) vector of exercise dates. For a European option, there is only one`ExerciseDate`

on the option expiry date.If an American option, then

`ExerciseDates`

is a`1`

-by-`2`

vector of exercise date boundaries. The option exercises on any date between or including the pair of dates on that row. If there is only one non-`NaN`

date, or if`ExerciseDates`

is`1`

-by-`1`

, the option exercises between the`Settle`

date and the single listed`ExerciseDate`

.

**Data Types: **`double`

| `char`

| `cell`

Specify optional
comma-separated pairs of `Name,Value`

arguments. `Name`

is
the argument name and `Value`

is the corresponding value.
`Name`

must appear inside quotes. You can specify several name and value
pair arguments in any order as
`Name1,Value1,...,NameN,ValueN`

.

```
[Price,PriceTree] =
optemfloatbyhw(HWTree,Spread,Settle,Maturity,OptSpec,Strike,ExerciseDates,'AmericanOpt',1,'FloatReset',6,'Basis',8)
```

`'AmericanOpt'`

— Option typescalar | vector of positive integers

`[0,1]`

Option type, specified as the comma-separated pair consisting of
`'AmericanOpt'`

and
`NINST`

-by-`1`

positive integer scalar flags with
values:

`0`

— European/Bermuda`1`

— American

**Data Types: **`double`

`'FloatReset'`

— Frequency of payments per year`1`

(default) | positive integer from the set`[1,2,3,4,6,12]`

| vector of positive integers from the set
`[1,2,3,4,6,12]`

Frequency of payments per year, specified as the comma-separated pair consisting
of `'FloatReset'`

and positive integers for the values
`[1,2,3,4,6,12]`

in a
`NINST`

-by-`1`

vector.

Payments on floating-rate notes (FRNs) are determined by the effective interest-rate between reset dates. If the reset period for an FRN spans more than one tree level, calculating the payment becomes impossible due to the recombining nature of the tree. That is, the tree path connecting the two consecutive reset dates cannot be uniquely determined because there will be more than one possible path for connecting the two payment dates.

**Data Types: **`double`

`'Basis'`

— Day-count basis of the instrument`0`

(actual/actual) (default) | positive integers of the set `[1...13]`

| vector of positive integers of the set `[1...13]`

Day-count basis of the instrument, specified as the comma-separated pair consisting of
`'Basis'`

and a positive integer using a
`NINST`

-by-`1`

vector. The
`Basis`

value represents the basis used when annualizing the input
forward-rate tree.

0 = actual/actual

1 = 30/360 (SIA)

2 = actual/360

3 = actual/365

4 = 30/360 (PSA)

5 = 30/360 (ISDA)

6 = 30/360 (European)

7 = actual/365 (Japanese)

8 = actual/actual (ICMA)

9 = actual/360 (ICMA)

10 = actual/365 (ICMA)

11 = 30/360E (ICMA)

12 = actual/365 (ISDA)

13 = BUS/252

For more information, see Basis.

**Data Types: **`double`

`'EndMonthRule'`

— End-of-month rule flag`1`

(in effect) (default) | nonnegative integer [0,1]End-of-month rule flag, specified as the comma-separated pair consisting of
`'EndMonthRule'`

and a nonnegative integer [`0`

,
`1`

] using a `NINST`

-by-`1`

vector. This rule applies only when `Maturity`

is an end-of-month
date for a month having 30 or fewer days.

`0`

= Ignore rule, meaning that a bond coupon payment date is always the same numerical day of the month.`1`

= Set rule on, meaning that a bond coupon payment date is always the last actual day of the month.

**Data Types: **`double`

`'Principal'`

— Principal values`100`

(default) | vector of nonnegative values | cell array of nonnegative valuesPrincipal values, specified as the comma-separated pair consisting of
`'Principal'`

and nonnegative values using a
`NINST`

-by-`1`

vector or
`NINST`

-by-`1`

cell array of notional principal
amounts. When using a `NINST`

-by-`1`

cell array,
each element is a `NumDates`

-by-`2`

cell array where
the first column is dates and the second column is associated principal amount. The
date indicates the last day that the principal value is valid.

**Data Types: **`double`

| `cell`

`'Options'`

— Structure containing derivatives pricing optionsstructure

Structure containing derivatives pricing options, specified as the comma-separated pair
consisting of `'Options'`

and a structure obtained from using
`derivset`

.

**Data Types: **`struct`

`Price`

— Expected prices of the floating-rate note option at time 0scalar | vector

Expected prices of the floating-rate note option at time 0 are
returned as a scalar or an `NINST`

-by-`1`

vector.

`PriceTree`

— Structure of trees containing vectors of option prices at each node tree structure

Structure of trees containing vectors of instrument prices and accrued interest and a vector of observation times for each node returned as:

`PriceTree.PTree`

contains embedded option prices.`PriceTree.tObs`

contains the observation times.

A *floating-rate note with an embedded option*
enables floating-rate notes to have early redemption features.

A FRN with an embedded option gives investors or issuers the option to retire the outstanding principal prior to maturity. An embedded call option gives the right to retire the note prior to the maturity date (callable floater), and an embedded put option gives the right to sell the note back at a specific price (puttable floater).

For more information, see Floating-Rate Note with Embedded Options.

`instoptemfloat`

| `optembndbyhw`

| `optemfloatbybdt`

| `optemfloatbybk`

| `optemfloatbyhjm`

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