Development of computational algorithms for pricing European bond options under the influence of macro-economic conditions

A stochastic process of Vasicek type describing the short rate is considered, where the three governing parameters {φ,α, σ}, with φ for the market fitting, α for the reversion and σ for the volatility, would depend on the macro-economic condition modeled as an independent birth-death process on a finite state space. Computational algorithms are developed for evaluating the prices of European call options defined on a zero-coupon discount bond characterized by the above stochastic process. Numerical examples are provided based on real data so as to demonstrate the speed and efficiency of the proposed algorithms.