346 Frequently Asked Questions In Quantitative Finance
have the same distribution. The normal distribution is a spe-
cial case. Of interest in finance because returns data matches
this distribution quite well. See page 231.
LIBOR London Interbank Offered Rate. An interest rate at
which banks offer to lend funds to other banks in the London
wholesale money market. It is quoted at different maturities.
Being a standard reference rate it is often the underlying
interest rate in OTC fixed-income contracts.
Market maker Someone who gives prices at which he will
buy or sell instruments, in the hope of making a profit on the
difference between the bid and offer prices. They are said to
add liquidity to the market.
MBS A Mortgage Backed Security is a pool of mortgages that
have been securitized. See page 321.
Mean reversion The returning of a quantity to an average level.
This is a feature of many popular interest rate and volatility
models, which may exhibit randomness but never stray too
far from some mean.
Monte Carlo A name given to many methods for solving
mathematical problems using simulations. The link between
a probabilistic concept, such as an average, and simulations is
clear. There may also be links between a deterministic prob-
lem and a simulation. For example, you can estimateπby
throwing darts at a square, uniformly distributed, and count-
ing how many land inside the inscribed circle. It should beπ/ 4
of the number thrown. To get six decimal places of accuracy
inπyou would have to throw approximately 10^12 darts, this
is the downside of Monte Carlo methods, they can be slow.
Normal distribution A probability distribution commonly used
to model financial quantities. See page 201.
PDE Partial differential equation, as its name suggest an
equation (there must be an ‘equals’ sign), involving derivatives
with respect to two or more variables. In finance almost all
PDEs are of a type known as parabolic, this includes the
famous heat or diffusion equation. See page 20.
