SABR spreads its wings
Traditional methods for the stochastic alpha beta rho model tend to focus on expansion approximations that are inaccurate in the long maturity ‘wings’. However, if the Brownian motions driving the forward and its volatility are uncorrelated, option prices are analytically tractable. In the correlated case, model parameters can be mapped to a mimicking uncorrelated model for accurate option pricing. Alexander Antonov, Michael Konikov and Michael Spector explain how
The stochastic alpha beta rho (SABR) model introduced in Hagan, Lesniewski & Woodward (2001) and Hagan et al (2002) is widely used by practitioners to capture the volatility skew and smile effects of interest rate options.
SABR spreads its wings
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