Term Premium in a Fractionally Cointegrated Yield Curve

43 Pages Posted: 13 Dec 2017 Last revised: 18 May 2020

See all articles by Mirko Abbritti

Mirko Abbritti

University of Navarra

Hector Carcel

University of Navarra - School of Economics

Luis A. Gil-Alana

University of Navarra - Department of Economics

Antonio Moreno

School of Economics and Business, University of Navarra

Date Written: June 8, 2018

Abstract

The co-movement of US sovereign rates suggests a long-run equilibrium relationship.
Traditional cointegrated systems need to assume that interest rates are unit roots and thus implying non-stationary and non-mean-reverting dynamics. We postulate and estimate a fractional cointegrated model (FCVAR) which allows for mean reverting though highly persistent patterns. Our results point to the existence of such mean-reverting fractional cointegration among sovereign rates. In terms of out-of-sample forecasting, the FCVAR soundly beats the I(0) VAR model across interest rate maturities and horizons and the I(1) cointegrated VAR across maturities and short-horizons. The implied US term premium --across different maturities-- proves to be quite robust across subsamples and is less volatile than the classical I(0) stationary and I(1) unit root models. Our analysis highlights the role of real factors in shaping term premium dynamics and is extended to the UK and Germany yield curves.

Keywords: U.S. yield curve, stochastic trend, fractional cointegration, term premium, international yield curves

JEL Classification: C2, C3, E4, G1

Suggested Citation

Abbritti, Mirko and Carcel, Hector and Gil-Alana, Luis A. and Moreno, Antonio, Term Premium in a Fractionally Cointegrated Yield Curve (June 8, 2018). Available at SSRN: https://ssrn.com/abstract=3085154 or http://dx.doi.org/10.2139/ssrn.3085154

Mirko Abbritti

University of Navarra ( email )

Universidad de Navarra
Campus Universitario
Pamplona, 31009
Spain

Hector Carcel

University of Navarra - School of Economics ( email )

Universidad de Navarra
Campus Universitario
Pamplona, 31009
Spain

Luis A. Gil-Alana

University of Navarra - Department of Economics ( email )

Campus de Arrosadia
Pamplona, 31006
Spain

Antonio Moreno (Contact Author)

School of Economics and Business, University of Navarra ( email )

Ed. Amigos
Pamplona, Navarra 31009
Spain

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