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Testing linearity in term structures

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  • Chiara Peroni

Abstract

This article uses robust nonparametric techniques to investigate both crosssectional and dynamic properties of affine models, a popular framework to analyse Term Structures (TSs) of interest rates. The analysis shows the strong nonlinearity in the relationship of yields to the US and UK short rate. The nonlinear pattern is concave in the state variable, and increasing with respect to the maturity, for both countries. Linear and nonlinear specifications are then compared by means of a formal statistical criterion, the Generalized Likelihood-Ratio (GLR) test statistics, which confirms evidence against the linear specification.

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File URL: http://hdl.handle.net/10.1080/09603107.2011.621882
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Bibliographic Info

Article provided by Taylor and Francis Journals in its journal Applied Financial Economics.

Volume (Year): 22 (2012)
Issue (Month): 8 (April)
Pages: 651-666

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Handle: RePEc:taf:apfiec:v:22:y:2012:i:8:p:651-666

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  1. Jiang, George J. & Knight, John L., 1997. "A Nonparametric Approach to the Estimation of Diffusion Processes, With an Application to a Short-Term Interest Rate Model," Econometric Theory, Cambridge University Press, vol. 13(05), pages 615-645, October.
  2. Fan J. & Zhang C., 2003. "A Reexamination of Diffusion Estimators With Applications to Financial Model Validation," Journal of the American Statistical Association, American Statistical Association, vol. 98, pages 118-134, January.
  3. Bandi, Federico M., 2002. "Short-term interest rate dynamics: a spatial approach," Journal of Financial Economics, Elsevier, vol. 65(1), pages 73-110, July.
  4. Francis X. Diebold & Glenn D. Rudebusch, 1990. "On the power of Dickey-Fuller tests against fractional alternatives," Finance and Economics Discussion Series 119, Board of Governors of the Federal Reserve System (U.S.).
  5. Bierens, Herman J., 1997. "Testing the unit root with drift hypothesis against nonlinear trend stationarity, with an application to the US price level and interest rate," Journal of Econometrics, Elsevier, vol. 81(1), pages 29-64, November.
  6. Gil-Alana, L. A. & Robinson, P. M., 1997. "Testing of unit root and other nonstationary hypotheses in macroeconomic time series," Journal of Econometrics, Elsevier, vol. 80(2), pages 241-268, October.
  7. Ahn, Dong-Hyun & Gao, Bin, 1999. "A Parametric Nonlinear Model of Term Structure Dynamics," Review of Financial Studies, Society for Financial Studies, vol. 12(4), pages 721-62.
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