* Tel: 617-495-6080.  We employ the term ‘Poisson—Gaussian’ here to denote the discrete time analog to continuous time jump-diffusion processes. Journal of Economic Dynamics and Control 23 (1999) 333 — 369 A direct discrete-time approach to Poisson—Gaussian bond option pricing in the Heath—Jarrow—Morton model Sanjiv Ranjan Das* Morgan Hall, Graduate School of Business Administration, Harvard University, Soldiers Field, Boston, MA 02163, USA Received 4 May 1997; accepted 27 January 1998 Abstract Term structure models employing Poisson—Gaussian processes may be used to accom- modate the observed skewness and kurtosis of interest rates. This paper extends the discrete-time, pure-Gaussian version of the Heath—Jarrow—Morton model to the pricing of American-type bond options when the underlying term structure of interest rates follows a Poisson—Gaussian process. The Poisson—Gaussian process is specified using a hexa- nomial tree (six nodes emanating from each node), and the tree is shown to be recombining. The scheme is parsimonious and convergent. This model extends the class of HJM models by (i) introducing a more generalized volatility specification than has been used so far, and (ii) including jumps, yet retaining lattice recombination, thus making the model useful for practical applications.  1999 Elsevier Science B.V. All rights reserved. JEL classification: G13; C63 Keywords: Jumps; Skewness; Kurtosis; Hexanomial; Options 1. Introduction This paper develops a model for the pricing of American-type interest rate options when interest rates follow Poisson—Gaussian processes.  This model 0165-1889/99/$ — see front matter  1999 Elsevier Science B.V. All rights reserved. PII:S0165-1889(98)00031-1