Modeling the Term Structure of Interest Rates with General Diffusion Processes: A Moment Approximation Approach
We propose an analytical approximation of the term structure of interest rates under general diffusion processes of the short-rate and state variables. A method of approximating conditional moments as the solution to a system of ordinary differential equations is applied to the pricing of bonds. Numerical experiments based on two illustrative models show that the second-order approximation is accurate for maturities of up to five years and the third-order approximation is effective for longer maturities. We also show the possibility of improving the second-order approximation without much increasing the computational burden.
|Length:||17,  p.|
|Date of creation:||Oct 2007|
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|Note:||This version: October, 2007 (The previous version: October, 2006)|
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