| Computing Arbitrage-Free Yields in Multi-Factor Gaussian Shadow-Rate Term Structure Models Contributor(s): Federal Reserve Board (Author) |
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ISBN: 1503223736 ISBN-13: 9781503223738 Publisher: Createspace Independent Publishing Platform OUR PRICE: $12.30 Product Type: Paperback Published: November 2014 |
| Additional Information |
| BISAC Categories: - Business & Economics |
| Physical Information: 0.07" H x 8.5" W x 11.02" (0.24 lbs) 36 pages |
| Descriptions, Reviews, Etc. |
| Publisher Description: This paper develops a method to approximate arbitrage-free bond yields within a term structure model in which the short rate follows a Gaussian process censored at zero (a shadow-rate model as proposed by Black, 1995). The censoring ensures that model-implied yields are constrained to be positive, but it also introduces non-linearity that renders standard bond pricing formulas inapplicable. In particular, yields are not linear functions of the underlying state vector as they are in a ne term structure models (see Piazzesi, 2010). Existing approaches towards computing yields in shadow-rate models suffer from high computational burden or low accuracy. In contrast, I show that the technique proposed in this paper is sufficiently fast for single-step estimation of a three- factor shadow-rate term structure model, and sufficiently accurate to evaluate yields to within approximately half a basis point. |