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Term Structure Models Can Predict Interest Rate Volatility. But How?

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  • Hideyuki Takamizawa

Abstract

This paper attempts to predict the volatility of interest rates through dynamic term structure models. For this attempt, the models are improved, based on the three-factor Gaussian model, to have level-dependent volatilities supported by data. The empirical results show that the predictive power of the proposed models is higher than that of the affine models. Compared with time-series models, it is low for the four-week forecasting horizon but can be comparable for middle to long term rates by extending the horizon up to 32 weeks. The combination of these two different types of forecasts can lead to higher predictive power.

Suggested Citation

  • Hideyuki Takamizawa, 2010. "Term Structure Models Can Predict Interest Rate Volatility. But How?," Tsukuba Economics Working Papers 2010-008, Economics, Graduate School of Humanities and Social Sciences, University of Tsukuba.
  • Handle: RePEc:tsu:tewpjp:2010-008
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    File URL: http://www.econ.tsukuba.ac.jp/RePEc/2010-008.pdf
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    References listed on IDEAS

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    1. Goeree, Jacob K. & Holt, Charles A. & Palfrey, Thomas R., 2002. "Quantal Response Equilibrium and Overbidding in Private-Value Auctions," Journal of Economic Theory, Elsevier, vol. 104(1), pages 247-272, May.
    2. Hong, Chew Soo & Nishimura, Naoko, 2003. "Revenue non-equivalence between the English and the second-price auctions: experimental evidence," Journal of Economic Behavior & Organization, Elsevier, vol. 51(4), pages 443-458, August.
    3. Cox, James C. & Smith, Vernon L. & Walker, James M., 1982. "Auction market theory of heterogeneous bidders," Economics Letters, Elsevier, vol. 9(4), pages 319-325.
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    Cited by:

    1. Takamizawa, Hideyuki, 2012. "Predicting Interest Rate Volatility: Using Information on the Yield Curve," Working Paper Series G-1-3, Center for Financial Research, Graduate School of Commerce and Management, Hitotsubashi University.

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