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Hedging Against the Interest-rate Risk by Measuring the Yield-curve Movement

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Listed author(s):
  • Zhongliang Tuo
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    Abstract

    By adopting the polynomial interpolation method, we propose an approach to hedge against the interest-rate risk of the default-free bonds by measuring the nonparallel movement of the yield-curve, such as the translation, the rotation and the twist. The empirical analysis shows that our hedging strategies are comparable to traditional duration-convexity strategy, or even better when we have more suitable hedging instruments on hand. The article shows that this strategy is flexible and robust to cope with the interest-rate risk and can help fine-tune a position as time changes.

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    File URL: http://arxiv.org/pdf/1312.6841
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    Paper provided by arXiv.org in its series Papers with number 1312.6841.

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    Date of creation: Dec 2013
    Handle: RePEc:arx:papers:1312.6841
    Contact details of provider: Web page: http://arxiv.org/

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    1. Dewachter, Hans & Lyrio, Marco, 2006. "Macro Factors and the Term Structure of Interest Rates," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 38(1), pages 119-140, February.
    2. Vasicek, Oldrich, 1977. "An equilibrium characterization of the term structure," Journal of Financial Economics, Elsevier, vol. 5(2), pages 177-188, November.
    3. David Heath & Robert Jarrow & Andrew Morton, 2008. "Bond Pricing And The Term Structure Of Interest Rates: A New Methodology For Contingent Claims Valuation," World Scientific Book Chapters,in: Financial Derivatives Pricing Selected Works of Robert Jarrow, chapter 13, pages 277-305 World Scientific Publishing Co. Pte. Ltd..
    4. Ang, Andrew & Piazzesi, Monika, 2003. "A no-arbitrage vector autoregression of term structure dynamics with macroeconomic and latent variables," Journal of Monetary Economics, Elsevier, vol. 50(4), pages 745-787, May.
    5. Vasicek, Oldrich Alfonso, 1977. "Abstract: An Equilibrium Characterization of the Term Structure," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 12(04), pages 627-627, November.
    6. Orphanides, Athanasios & Wei, Min, 2012. "Evolving macroeconomic perceptions and the term structure of interest rates," Journal of Economic Dynamics and Control, Elsevier, vol. 36(2), pages 239-254.
    7. Miles Livingston & Lei Zhou, 2005. "Exponential Duration: A More Accurate Estimation Of Interest Rate Risk," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 28(3), pages 343-361.
    8. Pesando, James E, 1979. "On the Random Walk Characteristics of Short- and Long-Term Interest Rates in an Efficient Market," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 11(4), pages 457-466, November.
    9. Agca, Senay, 2005. "The Performance of Alternative Interest Rate Risk Measures and Immunization Strategies under a Heath-Jarrow-Morton Framework," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 40(03), pages 645-669, September.
    10. Emanuele Bajo & Massimiliano Barbi & David Hillier, 2013. "Interest rate risk estimation: a new duration-based approach," Applied Economics, Taylor & Francis Journals, vol. 45(19), pages 2697-2704, July.
    11. Hull, John & White, Alan, 1990. "Pricing Interest-Rate-Derivative Securities," Review of Financial Studies, Society for Financial Studies, vol. 3(4), pages 573-592.
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