On the singular limit of solutions to the CIR interest rate model with stochastic volatility
Provides a theoretical asymptotic analysis for term structure models with stochastic volatility, but is incremental as it extends existing perturbation methods to a specific financial model.
The paper derives a second-order asymptotic expansion for bond prices under a two-factor CIR model with rapidly oscillating stochastic volatility, showing the first two terms are independent of the volatility variable.
In this paper we are interested in term structure models for pricing zero coupon bonds under rapidly oscillating stochastic volatility. We analyze solutions to the generalized Cox-Ingersoll-Ross two factors model describing clustering of interest rate volatilities. The main goal is to derive an asymptotic expansion of the bond price with respect to a singular parameter representing the fast scale for the stochastic volatility process. We derive the second order asymptotic expansion of a solution to the two factors generalized CIR model and we show that the first two terms in the expansion are independent of the variable representing stochastic volatility.