Journal of Computational Finance

Risk.net

Multicurrency extension of the quasi-Gaussian stochastic volatility interest rate model

Leslie Ng

ABSTRACT

In this paper, we develop a multicurrency extension of the quasi-Gaussian stochastic volatility interest rate model described by Andreasen and Andersen and Piterbarg.We model foreign exchange dynamics using a Heston-type stochastic volatility process with a constant elasticity of variance local volatility component. An approximation is presented for European foreign exchange options, and various issues relating to correlations and model calibration are discussed.

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