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Simulating and validating a multi-factor Heath, Jarrow and Morton model with negative interest rates

Author

Listed:
  • Jarrow, Robert A.
  • Van Deventer, Donald R.

Abstract

This paper explains how to ensure that a Heath, Jarrow and Morton (HGM) term structure of interest rates model is economically and statistically valid. Economic validity is needed for the stability of the assumed evolution. An economically valid model is arbitrage free. Statistical validity is needed to ensure the model predicts the future well. A statistically valid model needs to incorporate both negative rates and multiple factors. The paper includes an example of an economic and statistically valid HJM model.

Suggested Citation

  • Jarrow, Robert A. & Van Deventer, Donald R., 2015. "Simulating and validating a multi-factor Heath, Jarrow and Morton model with negative interest rates," Journal of Risk Management in Financial Institutions, Henry Stewart Publications, vol. 8(4), pages 332-346, October.
    • Handle: RePEc:aza:rmfi00:y:2015:v:8:i:4:p:332-346
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    More about this item

    Keywords

    HJM model; term structure of interest rates; arbitrage free; multiple factors; negative interest rates; affine models;
    All these keywords.

    JEL classification:

    • G2 - Financial Economics - - Financial Institutions and Services
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit

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