Negative Libor rates in the swap market model (Q2463709)

The purpose of this paper is to consider swap market model and to show that under the assumption of positive volatility functions for the swap rates, the implied Libor rates can become negative in finite time. The case in which the swap rates are modelled via a non-degenerate diffusion is simple, but the degenerate case is more difficult and the authors use in this case the Stroock and Varadhan's support theorem for diffusion processes. Some Monte Carlo simulations showing examples of the effect of negative values, are presented.