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The Three Factor Models

In: Yield Curves and Forward Curves for Diffusion Models of Short Rates

Author

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  • Gennady A. Medvedev

    (Belarusian State University)

Abstract

The Duffie–Kan modelsDuffie–Kan model are analyzed that describe the dynamics of the short-term interest rate in the case when the state of the financial marketState of financial market is characterized not only by the level of the interest rate itself, but also by two more time-varying parameters. Three extensions of the one-factor model to a three-factor modelThree-factor model are considered, which lead to an affine term structure of yield. These extensions suggest that the parameters of a single-factor model, the level of interest rate yield and its volatility, are not constant values, but diffusion processes. In the first version, the volatility of the process of the level of yield interest rateYield interest rate does not depend on the level itself and is stochastic. In the second version, the process of the level of yield interest rate is a “square root” process. In the third version, the volatility of the process of the level of yield interest rate does not depend on the level itself and is deterministic. The main focus is on the properties of the yield curveYield curve and the forward curveForward curve , when the dynamics of the short-term interest rate is described by these three-factor modelsThree-factor model .

Suggested Citation

  • Gennady A. Medvedev, 2019. "The Three Factor Models," Springer Books, in: Yield Curves and Forward Curves for Diffusion Models of Short Rates, chapter 0, pages 115-125, Springer.
    • Handle: RePEc:spr:sprchp:978-3-030-15500-1_7
    DOI: 10.1007/978-3-030-15500-1_7
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