Explaining the Forward Interest Rate Term Structure
Condensed Matter
2007-05-23 v1
Abstract
We present compelling empirical evidence for a new interpretation of the Forward Rate Curve (FRC) term structure. We find that the average FRC follows a square-root law, with a prefactor related to the spot volatility, suggesting a Value-at-Risk like pricing. We find a striking correlation between the instantaneous FRC and the past spot trend over a certain time horizon. This confirms the idea of an anticipated trend mechanism proposed earlier and provides a natural explanation for the observed shape of the FRC volatility. We find that the one-factor Gaussian Heath-Jarrow-Morton model calibrated to the empirical volatility function fails to adequately describe these features.
Cite
@article{arxiv.cond-mat/9909396,
title = {Explaining the Forward Interest Rate Term Structure},
author = {Andrew Matacz and Jean-Philippe Bouchaud},
journal= {arXiv preprint arXiv:cond-mat/9909396},
year = {2007}
}
Comments
12 pages, Latex + 4 EPS figures