A Re-Examination of the Empirical Performance of the Longstaff and Schwartz Two-Factor Term Structure Model Using Real Yield Data

Posted: 30 Jul 2013

See all articles by Robert W. Faff

Robert W. Faff

University of Queensland

Sirimon Treepongkaruna

The University of Western Australia; Financial Research Network (FIRN)

Date Written: July 29, 2013

Abstract

In this study, we apply the Longstaff and Schwartz (1992) two-factor term structure model to real yields across eight countries. As such, we improve on many prior studies that have inappropriately tested this formulation using nominal yield data. We use the generalized method of moments to test the cross-sectional restrictions imposed by the Longstaff and Schwartz model, as well as the Cox-Ingersoll-Ross one-factor model. Further, we compare the forecasting ability from both models. Our findings support the superiority of the two-factor model. We confirm general reliability of prior research in this area, despite the unfortunate reliance on nominal data in such earlier tests.

Keywords: Longstaff-Schwartz two-factor model, multi-country test, real yield data, term structure

Suggested Citation

Faff, Robert W. and Treepongkaruna, Sirimon, A Re-Examination of the Empirical Performance of the Longstaff and Schwartz Two-Factor Term Structure Model Using Real Yield Data (July 29, 2013). Australian Journal of Management, Vol. 38, No. 2, 2013. Available at SSRN: https://ssrn.com/abstract=2302627

Robert W. Faff

University of Queensland ( email )

St Lucia
Brisbane, Queensland 4072
Australia

Sirimon Treepongkaruna (Contact Author)

The University of Western Australia ( email )

35 Stirling Highway
Crawley, Western Australia 6009
Australia
+61864887853 (Phone)
+61864881086 (Fax)

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

HOME PAGE: http://www.firn.org.au

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