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Estimation of Affine Term Structure Models with Spanned or Unspanned Stochastic Volatility

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  • Drew D. Creal
  • Jing Cynthia Wu

Abstract

We develop new procedures for maximum likelihood estimation of affine term structure models with spanned or unspanned stochastic volatility. Our approach uses linear regression to reduce the dimension of the numerical optimization problem yet it produces the same estimator as maximizing the likelihood. It improves the numerical behavior of estimation by eliminating parameters from the objective function that cause problems for conventional methods. We find that spanned models capture the cross-section of yields well but not volatility while unspanned models fit volatility at the expense of fitting the cross-section.

Suggested Citation

  • Drew D. Creal & Jing Cynthia Wu, 2014. "Estimation of Affine Term Structure Models with Spanned or Unspanned Stochastic Volatility," NBER Working Papers 20115, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberwo:20115
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    JEL classification:

    • C13 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Estimation: General
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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