What Can Go Wrong During Caplet Stripping?

You may or may not have heard that a piecewise-linear interpolation of caplet vols is not stable, it leads to oscillations in the caplet stripping procedure (implying caplet volatilities from cap vol market quotes). And many revert to piecewise-constant interpolation as a consequence. &#xA; Several years ago, such a case was brought upon myself and I thought at the time that maybe if we used knots…