44 Pages Posted: 15 Mar 2014 Last revised: 24 Aug 2016
Date Written: January 2016
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: 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
By Andrew Ang