Under CIR(Cox, Ingersoll, and Ross) interest rate model, the value of contingent claims related to interest rates is expressed by a PDE(partial differential equation) and some boundary conditions. The aim of this thesis is to price options on the KTB(Korean Treasury Bond) futures using FDM(finite difference method) under one-factor CIR interest rate model.
However, the performance of the pricing scheme using FDM was not good because the payoff structure of the KTB futures is based on the average interest rate in the basket, a pool of different treasury bonds, and the CIR interest rate model could not exactly fit the current term structure of market interest rates. Rather, the market conventional pricing scheme, the binomial process of Black’s model, could explain the market price of options on KTB futures.
It is concluded that one of the important point in using the binomial process of Black’s model is how one can infer the market volatility exactly. In this thesis, several different ways of inferring the market volatility are compared with each other; the theoretical prices using implied volatility were closest to the market prices.
