ABSTRACT

A simple one-factor quadratic Gaussian (QG) model is considered in order to generate future scenarios of interest rates. The prices of discount bonds and some interest rate derivatives are derived in analytical form, by which calibration to the market prices becomes straightforward. It is shown that the QG model provides a very good fit to the current Japanese interest rate market. Risk measures such as the value-at-risk of portfolios can be evaluated through simple Monte Carlo simulation.