An Alternative Interest Rate Term Structure Model
This paper proposes an alternative approach to the modeling of the interest rate term structure. It suggests that the total market price for risk is an important factor that has to be modeled carefully. The growth optimal portfolio, which is characterized by this factor, is used as reference unit or benchmark for obtaining a consistent price system. Benchmarked derivative prices are taken as conditional expectations of future benchmarked prices under the real world probability measure. The inverse of the squared total market price for risk is modeled as a square root process and shown to influence the medium and long term forward rates. With constant parameters and constant short rate the model already generates a hump shaped mean for the forward rate curve and other empirical features typically observed.
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Volume (Year): 08 (2005)
Issue (Month): 06 ()
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"Bond Pricing and the Term Structure of Interest Rates: A New Methodology for Contingent Claims Valuation,"
Econometric Society, vol. 60(1), pages 77-105, January.
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" Closed Form Solutions for Term Structure Derivatives with Log-Normal Interest Rates,"
Journal of Finance,
American Finance Association, vol. 52(1), pages 409-430, March.
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- W. Breymann & A. Dias & P. Embrechts, 2003. "Dependence structures for multivariate high-frequency data in finance," Quantitative Finance, Taylor & Francis Journals, vol. 3(1), pages 1-14.
- J. -P. Bouchaud & N. Sagna & R. Cont & N. El-Karoui & M. Potters, 1997.
"Phenomenology of the Interest Rate Curve,"
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