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No-Arbitrage One-Factor Models of the South African Term-Structure of Interest Rates

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  • Peter Aling
  • Shakill Hassan

Abstract

Short-term interest rate processes determine the term-structure of interest rates in an arbitrage-free market, and are central to the valuation of interest-rate derivatives. We obtain parameter estimates and compare the empirical fit of alternative one-factor continuous-time processes for the South African short-term interest rate (and hence of arbitrage-free term-structure models), using Gaussian estimation methods. We find support only for diffusions where the interest rate volatility is moderately sensitive to the level of the interest rate. Other common models with restrictions that either preclude this effect, or restrict it to be too high, do not fit the data. Differences in the specification of the drift function have no evident effect on model performance.

Suggested Citation

  • Peter Aling & Shakill Hassan, 2011. "No-Arbitrage One-Factor Models of the South African Term-Structure of Interest Rates," Working Papers 246, Economic Research Southern Africa.
  • Handle: RePEc:rza:wpaper:246
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    Cited by:

    1. Muteba Mwamba, John & Thabo, Lethaba & Uwilingiye, Josine, 2014. "Modelling the short-term interest rate with stochastic differential equation in continuous time: linear and nonlinear models," MPRA Paper 64386, University Library of Munich, Germany.
    2. Njindan Iyke, Bernard, 2017. "Asymmetries in Yield Curves: Some Empirical Evidence from Ghana," MPRA Paper 79155, University Library of Munich, Germany.

    More about this item

    Keywords

    bonds and interest-rate derivatives; arbitrage theory; maximum likelihood; continuous-time short rate models; term-structure of interest rates.;

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • 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

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