A General Characterization of Quadratic Term Structure Models

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A General Characterization of Quadratic Term Structure Models

Author Info

Li Chen (Princeton University)
H. Vincent Poor (Princeton University)

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Li Chen

Abstract

In this paper, we define a strongly regular quadratic Gaussian process to characterize quadratic term structure models (QTSMs) in a general Markov setting. The key of this definition is to keep the analytical tractability of QTSMs which has the quadratic term structure of the yield curve. In order to keep this property, under the regularity condition, we have proven that no jumps are allowed in the infinitesimal generator of the underlying state process. The coefficient functions defined in the quadratic Gaussian relationship can be decided by the multi-variate Riccati Equations with a unique admissible parameter set. Based on this result, we discuss the pricing problems of QTSMs under default-free and defaultable rates.

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Paper provided by EconWPA in its series Finance with number 0211008.

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Length: 40 pages
Date of creation: 28 Nov 2002
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Handle: RePEc:wpa:wuwpfi:0211008

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Find related papers by JEL classification:
C39 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Other
G12 - Financial Economics - - General Financial Markets - - - Asset Pricing

This paper has been announced in the following NEP Reports:

NEP-ALL-2002-12-02 (All new papers)
NEP-CFN-2002-12-02 (Corporate Finance)
NEP-RMG-2002-12-02 (Risk Management)

Cited by:
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Olivier Scaillet., 2003. "Linear-Quadratic Jump-Diffusion Modelling with Application to Stochastic Volatility," THEMA Working Papers 2003-29, THEMA (THéorie Economique, Modélisation et Applications), Université de Cergy-Pontoise. [Downloadable!]
Other versions:
- Peng Cheng & Olivier Scaillet, 2002. "Linear-Quadratic Jump-Diffusion Modeling with Application to Stochastic Volatility," FAME Research Paper Series rp67, International Center for Financial Asset Management and Engineering. [Downloadable!]

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