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Carlos Bernadell
- 26 June 2006
- WORKING PAPER SERIES - No. 641Details
- Abstract
- This paper develops a new methodology for simulating fixed-income return distributions. It is shown that a traditional factor risk model, when augmented with reference returns, is capable of generating visually consistent return distributions for a broad range of fixed income instruments such as government and nongovernment instruments in the US dollar and Japanese yen bond markets. The reference returns result from a regime-switching Nelson-Siegel yield curve model following Bernadell, Coche and Nyholm (2005). Empirical results are encouraging: simulated distributions exhibit most characteristics observed in the fixed income markets such as non-normal right-skewed distributions for short maturity instrument while instruments with longer maturity are closer to being normally distributed.
- JEL Code
- C15 : Mathematical and Quantitative Methods→Econometric and Statistical Methods and Methodology: General→Statistical Simulation Methods: General
C32 : Mathematical and Quantitative Methods→Multiple or Simultaneous Equation Models, Multiple Variables→Time-Series Models, Dynamic Quantile Regressions, Dynamic Treatment Effect Models, Diffusion Processes
C53 : Mathematical and Quantitative Methods→Econometric Modeling→Forecasting and Prediction Methods, Simulation Methods
G11 : Financial Economics→General Financial Markets→Portfolio Choice, Investment Decisions
G15 : Financial Economics→General Financial Markets→International Financial Markets
- 25 April 2005
- WORKING PAPER SERIES - No. 472Details
- Abstract
- This paper presents a new framework allowing strategic investors to generate yield curve projections contingent on expectations about future macroeconomic scenarios. By consistently linking the shape and location of yield curves to the state of the economy our method generates predictions for the full yield-curve distribution under different assumptions on the future state of the economy. On the technical side, our model represents a regimeswitching expansion of Diebold and Li (2003) and hence rests on the Nelson-Siegel functional form set in state-space form. We allow transition probabilities in the regimeswitching set-up to depend on observed macroeconomic variables and thus create a link between the macro economy and the shape and location of yield curves and their time-series evolution. The model is successfully applied to US yield curve data covering the period from 1953 to 2004 and encouraging out-of-sample results are obtained, in particular at forecasting horizons longer than 24 months.
- JEL Code
- C51 : Mathematical and Quantitative Methods→Econometric Modeling→Model Construction and Estimation
C53 : Mathematical and Quantitative Methods→Econometric Modeling→Forecasting and Prediction Methods, Simulation Methods
E44 : Macroeconomics and Monetary Economics→Money and Interest Rates→Financial Markets and the Macroeconomy