Factor Models and the Shape of the Term Structure

The Journal of Financial Engineering, Volume 7, Number 1 (March 1998)

Posted: 22 Apr 1998

See all articles by Erik Schlögl

Erik Schlögl

University of Technology Sydney (UTS), Quantitative Finance Research Centre; University of Cape Town (UCT) - The African Institute of Financial Markets and Risk Management; Faculty of Science, Department of Statistics, University of Johannesburg; Financial Research Network (FIRN)

Daniel Sommer

University of Bonn

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Abstract

This article analyzes a broad range of one* and multifactor models of the term structure of interest rates. We assess the influence of the choice of factor probability distributions on the term structure shapes the models generate, and use spread options as an aggregate measure of the relative importance assigned to rising and falling forward rate curves by the models considered. To the extent that interest rate risk depends on the movements of different parts of the term structure relative to one another rather than on shifts of its absolute level, the distributional assumption on the factor dynamics is found to be essentially irrelevant.

JEL Classification: E43, G12

Suggested Citation

Schloegl, Erik and Sommer, Daniel, Factor Models and the Shape of the Term Structure. The Journal of Financial Engineering, Volume 7, Number 1 (March 1998). Available at SSRN: https://ssrn.com/abstract=77088

Erik Schloegl (Contact Author)

University of Technology Sydney (UTS), Quantitative Finance Research Centre ( email )

Ultimo
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HOME PAGE: http://www.schlogl.com

University of Cape Town (UCT) - The African Institute of Financial Markets and Risk Management ( email )

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Rondebosch
Cape Town, Western Cape 7700
South Africa

Faculty of Science, Department of Statistics, University of Johannesburg ( email )

Auckland Park, 2006
South Africa

Financial Research Network (FIRN)

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Queensland
Australia

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

Daniel Sommer

University of Bonn ( email )

Postfach 2220
Bonn, D-53012
Germany
+49 69 7447 2719 (Phone)
+49 69 7447 1579 (Fax)

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