Staying at Zero with Affine Processes: An Application to Term-Structure Modelling

44 Pages Posted: 15 Mar 2014 Last revised: 24 Aug 2016

See all articles by Alain Monfort

Alain Monfort

National Institute of Statistics and Economic Studies (INSEE) - Center for Research in Economics and Statistics (CREST); National Bureau of Economic Research (NBER); Maastricht University

Fulvio Pegoraro

Banque de France - Economics and Finance Research Center; CREST - Laboratoire de Finance et Assurance

Jean-Paul Renne

University of Lausanne - School of Economics and Business Administration (HEC-Lausanne)

Guillaume Roussellet

McGill University - Desautels Faculty of Management

Multiple version iconThere are 2 versions of this paper

Date Written: January 2016

Abstract

We build an Affine Term Structure Model that provides non-negative yields at any maturity and that is able to accommodate a short-term rate that stays at the zero lower bound (ZLB) for extended periods of time while longer-term rates feature high volatilities. We introduce these features through a new univariate non-negative affine process called ARG-Zero, and its multivariate affine counterpart (VARG), entailing conditional distributions with a zero- point masses. The affine property of this new class of processes implies both explicit bond pricing and quasi-explicit lift-off probability formulas. We provide an empirical application to Japanese Government Bond (JGB) yields, observed weekly from June 1995 to May 2014 with maturities from six months to ten years. Our four-factor specification is able to closely match yield levels and to capture conditional yield volatilities.

Keywords: Zero Lower Bound, Affine Process, Term-Structure Model, Lift-Off Probabilities

JEL Classification: E43, G12

Suggested Citation

Monfort, Alain and Pegoraro, Fulvio and Renne, Jean-Paul and Roussellet, Guillaume, Staying at Zero with Affine Processes: An Application to Term-Structure Modelling (January 2016). Paris December 2014 Finance Meeting EUROFIDAI - AFFI Paper, Available at SSRN: https://ssrn.com/abstract=2408495 or http://dx.doi.org/10.2139/ssrn.2408495

Alain Monfort

National Institute of Statistics and Economic Studies (INSEE) - Center for Research in Economics and Statistics (CREST) ( email )

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National Bureau of Economic Research (NBER)

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Maastricht University

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Fulvio Pegoraro

Banque de France - Economics and Finance Research Center ( email )

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HOME PAGE: http://www.crest.fr/pageperso/pegoraro/pegoraro.htm

Jean-Paul Renne

University of Lausanne - School of Economics and Business Administration (HEC-Lausanne) ( email )

UNIL, Batiment Internef
Lausanne, 1015
Switzerland

Guillaume Roussellet (Contact Author)

McGill University - Desautels Faculty of Management ( email )

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Montreal, Quebec H3A1G5 H3A 2M1
Canada

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