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Intelligible factors for the yield curve

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  • Lengwiler, Yvan
  • Lenz, Carlos

Abstract

We construct a factor model of the yield curve and specify time series processes for these factors, so that the innovations are mutually orthogonal. At the same time, the factors are such that they assume clear, intuitive interpretations. The resulting "intelligible factors" should prove useful for investment professionals to discuss expectations about yield curves and the implied dynamics. Moreover, they allow us to distinguish announced changes of the monetary policy stance versus monetary policy surprises, which we find to be rare. We identify two such events, namely September 11, 2001, and the Fed reaction to the sub-prime crisis of 2007.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of Econometrics.

Volume (Year): 157 (2010)
Issue (Month): 2 (August)
Pages: 481-491

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Handle: RePEc:eee:econom:v:157:y:2010:i:2:p:481-491

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Web page: http://www.elsevier.com/locate/jeconom

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Keywords: Term structure of interest rates Dynamic factor model Vector autoregression Monetary policy shocks;

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References

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  1. Francis X. Diebold & Canlin Li, 2002. "Forecasting the Term Structure of Government Bond Yields," Center for Financial Institutions Working Papers 02-34, Wharton School Center for Financial Institutions, University of Pennsylvania.
  2. Diebold, Francis X. & Rudebusch, Glenn D. & Borag[caron]an Aruoba, S., 2006. "The macroeconomy and the yield curve: a dynamic latent factor approach," Journal of Econometrics, Elsevier, vol. 131(1-2), pages 309-338.
  3. GlennD. Rudebusch & Tao Wu, 2008. "A Macro-Finance Model of the Term Structure, Monetary Policy and the Economy," Economic Journal, Royal Economic Society, vol. 118(530), pages 906-926, 07.
  4. Vasicek, Oldrich Alfonso, 1977. "Abstract: An Equilibrium Characterization of the Term Structure," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 12(04), pages 627-627, November.
  5. Andrew Ang & Monika Piazzesi, 2001. "A No-Arbitrage Vector Autoregression of Term Structure Dynamics with Macroeconomic and Latent Variables," NBER Working Papers 8363, National Bureau of Economic Research, Inc.
  6. Vasicek, Oldrich, 1977. "An equilibrium characterization of the term structure," Journal of Financial Economics, Elsevier, vol. 5(2), pages 177-188, November.
  7. Cox, John C & Ingersoll, Jonathan E, Jr & Ross, Stephen A, 1985. "A Theory of the Term Structure of Interest Rates," Econometrica, Econometric Society, vol. 53(2), pages 385-407, March.
  8. Moench, Emanuel, 2008. "Forecasting the yield curve in a data-rich environment: A no-arbitrage factor-augmented VAR approach," Journal of Econometrics, Elsevier, vol. 146(1), pages 26-43, September.
  9. BAUWENS, Luc & DEPRINS, Dominique & VANDEUREN, Jean-Pierre, 1997. "Modelling interest rates with a cointegrated VAR-GARCH model," CORE Discussion Papers 1997080, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  10. Svensson, L.E.O., 1994. "Estimating and Interpreting Foreward Interest Rates: Sweden 1992-1994," Papers 579, Stockholm - International Economic Studies.
  11. Nelson, Charles R & Siegel, Andrew F, 1987. "Parsimonious Modeling of Yield Curves," The Journal of Business, University of Chicago Press, vol. 60(4), pages 473-89, October.
  12. Qiang Dai & Kenneth J. Singleton, 2000. "Specification Analysis of Affine Term Structure Models," Journal of Finance, American Finance Association, vol. 55(5), pages 1943-1978, October.
  13. repec:fth:louvco:9780 is not listed on IDEAS
  14. Darrell Duffie & Rui Kan, 1996. "A Yield-Factor Model Of Interest Rates," Mathematical Finance, Wiley Blackwell, vol. 6(4), pages 379-406.
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Cited by:
  1. Paul Soderlind, 2009. "Reaction of Swiss Term Premia to Monetary Policy Surprises," University of St. Gallen Department of Economics working paper series 2009 2009-33, Department of Economics, University of St. Gallen.
  2. repec:dgr:uvatin:0000041 is not listed on IDEAS
  3. Morten L. Bech & Yvan Lengwiler, 2012. "The Financial Crisis and the Changing Dynamics of the Yield Curve," Working papers 2012/06, Faculty of Business and Economics - University of Basel.
  4. Borus Jungbacker & Siem Jan Koopman & Michel van der Wel, 0000. "Dynamic Factor Models with Smooth Loadings for Analyzing the Term Structure of Interest Rates," Tinbergen Institute Discussion Papers 09-041/4, Tinbergen Institute, revised 17 Sep 2010.

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