Liquidity-adjusted benchmark yield curves: a look at trading concentration and information
AbstractEstimation of benchmark yield curve in developing markets is often influenced by liquidity concentration. Based on an affine term structure model, we develop a long run liquidity weighted fitting method to address the trading concentration phenomenon arising from horizon-induced clientele equilibrium as well as information discovery. Specifically, we employ arguments from models of liquidity concentration and benchmark security information. After examining time series behavior of price errors against our fitted model, we find results consistent with both the horizon and information hypotheses. Our evidence indicates that trading liquidity carries information effect in the long run, which cannot be fully captured in the short run. Trading liquidity plays a key role in long run term structure fitting. Markets for liquid benchmark government bond issues collectively form a long term equilibrium. Compared with previous studies, our results provide a robust and realistic characterization of the spot rate term structure and related price forecasting over time, which in turn help portfolio investment of fixed income and long run pricing of financial instruments.
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Bibliographic InfoPaper provided by University Library of Munich, Germany in its series MPRA Paper with number 37282.
Date of creation: Dec 2007
Date of revision:
Publication status: Published in Review of Pacific Basin Financial Markets and Policies 10.4(2007): pp. 491-518
liquidity; trading concentration; information discovery; term structure; yield curve;
Other versions of this item:
- William T. Lin & David S. Sun, 2007. "Liquidity-Adjusted Benchmark Yield Curves: A Look at Trading Concentration and Information," Review of Pacific Basin Financial Markets and Policies (RPBFMP), World Scientific Publishing Co. Pte. Ltd., vol. 10(04), pages 491-518.
- E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
- D53 - Microeconomics - - General Equilibrium and Disequilibrium - - - Financial Markets
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing
- D40 - Microeconomics - - Market Structure and Pricing - - - General
- D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search, Learning, and Information
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