We construct models for the pricing and risk management of inflation-linked derivatives. The model is rational in the sense that affine payoffs written on the consumer price index have prices that are rational functions of the state variables. The nominal pricing kernel is constructed in a multiplicative manner that allows for closed-form pricing of vanilla inflation products suchlike zero-coupon swaps, caps and floors, year-on-year swaps, caps and floors, and the exotic limited price index swap. The model retains the attractive features of a nominal multi-curve interest rate model  such as closed-form pricing of nominal swaptions  . We conclude with examples of how the model can be calibrated to EUR data.
We construct models for the pricing and risk management of inflation-linked derivatives. The models are rational in the sense that linear payoffs written on the consumer price index have prices that are rational functions of the state variables. The nominal pricing kernel is constructed in a multiplicative manner that allows for closed-form pricing of vanilla inflation products suchlike zero-coupon swaps, year-on-year swaps, caps and floors, and the exotic limited-price-index swap. We study the conditions necessary for the multiplicative nominal pricing kernel to give rise to short rate models for the nominal interest rate process. The proposed class of pricing kernel models retains the attractive features of a nominal multi-curve interest rate model , such as closed-form pricing of nominal swaptions , and it isolates the so-called inflation convexity-adjustment term arising from the covariance between the underlying stochastic drivers . We conclude with examples of how the model can be calibrated to EUR data.
R
model is
models are
R
affine
linear
D
caps and floors,
R
limited price index swap. The model
limited-price-index swap. We study the conditions necessary for the multiplicative nominal pricing kernel to give rise to short rate models for the nominal interest rate process. The proposed class of pricing kernel models
A
,
A
, and it isolates the so-called inflation convexity-adjustment term arising from the covariance between the underlying stochastic drivers