Quadratic Term Structure Models: Theory and Evidence

Posted: 29 Jan 2002

See all articles by Dong-Hyun Ahn

Dong-Hyun Ahn

University of North Carolina at Chapel Hill

Robert F. Dittmar

University of Michigan, Stephen M. Ross School of Business

A. Ronald Gallant

Duke University - Fuqua School of Business, Economics Group; New York University - Department of Economics

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Abstract

This paper theoretically explores the characteristics underpinning quadratic term structure models, QTSMs, which designate the yield on a bond as a quadratic function of underlying state variables. We develop a comprehensive QTSM, which is maximally flexible and thus encompasses the features of several diverse models including the double square-root model of Longstaff (1989), the univariate quadratic model of Beaglehole and Tenney (1992), and the Squared-Autoregressive-Independent- Variable Nominal Term Structure (SAINTS) model of Constantinides (1992). We document a complete classification of admissibility and empirical identification for the QTSM, and demonstrate that the QTSM can overcome limitations inherent in affine term structure models (ATSMs). Using the Efficient Method of Moments of Gallant and Tauchen (1996), we test the empirical performance of the model in determining bond prices and compare the performance to the ATSMs. The results of the goodness-of-fit tests suggest that the QTSMs outperform the ATSMs in explaining historical bond price behavior in the US.

Keywords: Asset Pricing - Theoretical, Asset Pricing - Empirical, Term Structure of Interest Rates - Theoretical, Term Structure of Interest Rates - Empirical

JEL Classification: G0, G1

Suggested Citation

Ahn, Dong-Hyun and Dittmar, Robert F. and Gallant, A. Ronald, Quadratic Term Structure Models: Theory and Evidence. Review of Financial Studies, Forthcoming. Available at SSRN: https://ssrn.com/abstract=286159

Dong-Hyun Ahn (Contact Author)

University of North Carolina at Chapel Hill ( email )

Kenan-Flagler Business School
Chapel Hill, NC 27599-3490
United States
919-962-3203 (Phone)
919-962-2068 (Fax)

Robert F. Dittmar

University of Michigan, Stephen M. Ross School of Business ( email )

701 Tappan Street
Ann Arbor, MI MI 48109
United States

A. Ronald Gallant

Duke University - Fuqua School of Business, Economics Group ( email )

Box 90097
Durham, NC 27708-0097
United States

New York University - Department of Economics ( email )

269 Mercer Street, 7th Floor
New York, NY 10011
United States

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