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Multivariate Feller conditions in term structure models: Why do(n't) we care?

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Peter Spreij
Enno Veerman
Peter Vlaar

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Abstract

In this paper, the relevance of the Feller conditions in discrete time macro-finance term structure models is investigated. The Feller conditions are usually imposed on a continuous time multivariate square root process to ensure that the roots have nonnegative arguments. For a discrete time approximate model, the Feller conditions do not give this guarantee. Moreover, in a macro-finance context the restrictions imposed might be economically unappealing. At the same time, it has also been observed that even without the Feller conditions imposed, for a practically relevant term structure model, negative arguments rarely occur. Using models estimated on German data, we compare the yields implied by (approximate) analytic exponentially affine expressions to those obtained through Monte Carlo simulations of very high numbers of sample paths. It turns out that the differences are rarely statistically significant, whether the Feller conditions are imposed or not. Moreover, economically the differences are negligible, as they are always below one basis point.

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File URL: http://arxiv.org/abs/0804.1039
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Paper provided by arXiv.org in its series Quantitative Finance Papers with number 0804.1039.

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Date of creation: Apr 2008
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Handle: RePEc:arx:papers:0804.1039

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  2. Marco Lyrio & Hans Dewachter & Konstantijn Maes, 2006. "A joint model for the term structure of interest rates and the macroeconomy," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 21(4), pages 439-462. [Downloadable!]
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  3. Andrew Ang & Geert Bekaert, 2004. "The term structure of real rates and expected inflation," Proceedings, Federal Reserve Bank of San Francisco, issue Mar. [Downloadable!]
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  8. Dewachter, Hans & Lyrio, Marco, 2006. "Macro Factors and the Term Structure of Interest Rates," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 38(1), pages 119-140, February. [Downloadable!] (restricted)
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  9. Glenn D. Rudebusch & Tao Wu, 2007. "Accounting for a Shift in Term Structure Behavior with No-Arbitrage and Macro-Finance Models," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 39(2-3), pages 395-422, 03. [Downloadable!] (restricted)
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  12. Ben S. Bernanke & Vincent R. Reinhart & Brian P. Sack, 2004. "Monetary policy alternatives at the zero bound: an empirical assessment," Finance and Economics Discussion Series 2004-48, Board of Governors of the Federal Reserve System (U.S.). [Downloadable!]
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  13. Wu, Tao, 2006. "Macro Factors and the Affine Term Structure of Interest Rates," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 38(7), pages 1847-1875, October. [Downloadable!] (restricted)
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  14. David Jamieson Bolder, 2001. "Affine Term-Structure Models: Theory and Implementation," Working Papers 01-15, Bank of Canada. [Downloadable!]
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