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Time-Varying Volatility and the Dynamic Behavior of the Term Structure

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Robert F. Engle
Victor K. Ng

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Abstract

In this paper, we consider a framework with which the cross sectional and time series behavior of the yield curve can be studied simultaneously. We examine the relationship between the yield curve and the time-varying conditional volatility of the Treasury bill market. We demonstrate that differently shaped yield curves can result given different combinations of volatility and expectations about future spot rates. Moreover, adjusting the forward rate for the volatility related liquidity premium can improve its performance as a predictor of future spot rates at least for the period from August 1964 to August 1979.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 3682.

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Date of creation: Apr 1991
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Publication status: published as Journal of Money, Credit, and Banking, vol. 25, pp. 336-349.
Handle: RePEc:nbr:nberwo:3682

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  1. Diether Beuermann & Antonios Antoniou & Alejandro Bernales, 2005. "The Dynamics of the Short-Term Interest Rate in the UK," Finance 0512029, EconWPA. [Downloadable!]
  2. Blaskowitz, Oliver & Herwartz, Helmut & de Cadenas Santiago, Gonzalo, 2005. "Modeling the FIBOR/EURIBOR Swap Term Structure : An Empirical Approach," Economics working papers 2005,04, Christian-Albrechts-University of Kiel, Department of Economics. [Downloadable!]
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  3. Rasmus Pilegaard & Alain Durre & Snorre Evjen, 2003. "Estimating risk premia in money market rates," Working Paper Series 221, European Central Bank. [Downloadable!]
  4. Christiansen, Charlotte & Lund, Jesper, 2002. "Revisiting the shape of the yield curve: the effect of interest rate volatility," Finance Working Papers 02-3, University of Aarhus, Aarhus School of Business, Department of Business Studies. [Downloadable!]
  5. Daniel R. Smith & Christophe Parignon, 2004. "Modeling Yield-Factor Volatility," Econometric Society 2004 Australasian Meetings 307, Econometric Society. [Downloadable!]
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