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Interest Rates with Long Memory: A Generalized Affine Term-Structure Model

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  • Daniela Osterrieder

    () (Aarhus University and CREATES)

Abstract

We propose a model for the term structure of interest rates that is a generalization of the discrete-time, Gaussian, affine yield-curve model. Compared to standard affine models, our model allows for general linear dynamics in the vector of state variables. In an application to real yields of U.S. government bonds, we model the time series of the state vector by means of a co-fractional vector autoregressive model. The implication is that yields of all maturities exhibit nonstationary, yet mean-reverting, long-memory behavior of the order d ˜ 0.87. The long-run dynamics of the state vector are driven by a level, a slope, and a curvature factor that arise naturally from the co-fractional modeling framework. We show that implied yields match the level and the variability of yields well over time. Studying the out-of-sample forecasting accuracy of our model, we find that our model results in good yield forecasts that outperform several benchmark models, especially at long forecasting horizons.

Suggested Citation

  • Daniela Osterrieder, 2013. "Interest Rates with Long Memory: A Generalized Affine Term-Structure Model," CREATES Research Papers 2013-17, Department of Economics and Business Economics, Aarhus University.
  • Handle: RePEc:aah:create:2013-17
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    Cited by:

    1. Goliński, Adam & Zaffaroni, Paolo, 2016. "Long memory affine term structure models," Journal of Econometrics, Elsevier, vol. 191(1), pages 33-56.
    2. repec:eee:jfinec:v:125:y:2017:i:1:p:163-181 is not listed on IDEAS

    More about this item

    Keywords

    term structure of interest rates; fractional integration and cointegration; affine models;

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • C58 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Financial Econometrics

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