OPTION PRICING USING THE TERM STRUCTURE OF INTEREST RATES TO HEDGE SYSTEMATIC DISCONTINUITIES IN ASSET RETURNS

This paper demonstrates the use of term-structure-related securities in the design of dynamic portfolio management strategies that hedge certain systematic jump risks in asset return. Option pricing formulas based on the absence of arbitrage opportunities in this context are also developed. the analysis is for the case where assets returns are driven by a finite number of Brownian motions and an "m"-variate point process. the inclusion of :the additional traded assets in the term structure makes it possible to hedge systematic jumps imbedded in the "m" variate point process. Copyright 1995 Blackwell Publishers.