Working Paper: NBER ID: w7213
Authors: Jacob Boudoukh; Matthew Richardson; Richard Stanton; Robert F. Whitelaw
Abstract: This paper presents a general, nonlinear version of existing multifactor models, such as Longstaff and Schwartz (1992). The novel aspect of our approach is that rather than choosing the model parameterization out of thin air,' our processes are generated from the data using approximation methods for multifactor continuous-time Markov processes. In applying this technique to the short- and long-end of the term structure for a general two-factor diffusion process for interest rates, a major finding is that the volatility of interest rates is increasing in the level of interest rates only for sharply upward sloping term structures. In fact, the slope of the term structure plays a larger role in determining the magnitude of the diffusion coefficient. As an application, we analyze the model's implications for the term structure of term premiums.
Keywords: No keywords provided
JEL Codes: G00
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Interest rate levels (E43) | Interest rate volatility (E43) |
| Slope of term structure (E43) | Interest rate volatility (E43) |
| Slope of term structure (E43) | Expected returns on bonds (G12) |
| Interest rate volatility (E43) | Market behavior (D40) |