Empirically Confronting Stochastic Singularity: An Application to the Cox, Ingersoll, and Ross Model

44 Pages Posted: 16 Feb 2009

See all articles by Christopher G. Lamoureux

Christopher G. Lamoureux

University of Arizona

Kenneth Roskelley

Mississippi State University - Department of Finance & Economics

Multiple version iconThere are 2 versions of this paper

Date Written: February, 13 2009

Abstract

We just-identify a no-arbitrage term structure model in estimation and then test it using both a classical orthogonality restriction test and a test of conditional predictive ability. We treat the error structure as unmodeled heterogeneity so that the model is estimated without errors, and the statistical question is whether using the model to characterize the dynamics and patterns in historical data is either useful or optimal as a forecasting tool. The data we use are from the transparent Greenspan regime at the Fed (1989-2005), and we also use a rolling estimation format so that regime shifts are not a likely cause of the model's performance. Substantively we find that the model is not a good forecasting device for short rates which in this period are strongly affected by changes in the target Fed Funds rate. For longer term rates, especially at longer forecast horizons where Fed policy has no effect, the model is more informative.

Keywords: Testing arbitrage models, Forecasting interest rates

JEL Classification: C90, D40, G10

Suggested Citation

Lamoureux, Christopher G. and Roskelley, Kenneth, Empirically Confronting Stochastic Singularity: An Application to the Cox, Ingersoll, and Ross Model (February, 13 2009). Available at SSRN: https://ssrn.com/abstract=1342587 or http://dx.doi.org/10.2139/ssrn.1342587

Christopher G. Lamoureux

University of Arizona ( email )

Tucson, AZ 85721
United States
520-621-7488 (Phone)
520-621-1261 (Fax)

Kenneth Roskelley (Contact Author)

Mississippi State University - Department of Finance & Economics ( email )

Mississippi State, MS 39762
United States
662-325-1979 (Phone)

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