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The Structure of Spot Rates and Immunization

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  • Elton, Edwin J
  • Gruber, Martin J
  • Michaely, Roni

Abstract

Empirical studies of the modern theories of bond pricing typically choose proxies for the state variables in a rather arbitrary fashion. This paper empirically analyzes the question of the optimal spot rates to use as state variables. The authors' findings indicate that the four-year spot rate serves as the best proxy in the one-state-variable model. In the case of the two-state-variables model, the six-year rate and eight-month rate are identified as best. Tests of the out-of-sample prediction ability indicate that their model is superior to F. R. Macaulay's duration model and alternative proxies for state variables. Copyright 1990 by American Finance Association.

Suggested Citation

  • Elton, Edwin J & Gruber, Martin J & Michaely, Roni, 1990. "The Structure of Spot Rates and Immunization," Journal of Finance, American Finance Association, vol. 45(2), pages 629-642, June.
    • Handle: RePEc:bla:jfinan:v:45:y:1990:i:2:p:629-42
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    Cited by:

    1. Cláudia Simões & Luís Oliveira & Jorge M. Bravo, 2021. "Immunization Strategies for Funding Multiple Inflation-Linked Retirement Income Benefits," Risks, MDPI, vol. 9(4), pages 1-28, March.
    2. Ventura Bravo, Jorge Miguel & Pereira da Silva, Carlos Manuel, 2006. "Immunization using a stochastic-process independent multi-factor model: The Portuguese experience," Journal of Banking & Finance, Elsevier, vol. 30(1), pages 133-156, January.
    3. Montagut, Esperanza H., 2004. "Hedging bond portfolios versus infinitely many ranked factors of risk," DEE - Working Papers. Business Economics. WB wb043312, Universidad Carlos III de Madrid. Departamento de Economía de la Empresa.
    4. Lekkos, Ilias, 2001. "Factor models and the correlation structure of interest rates: Some evidence for USD, GBP, DEM and JPY," Journal of Banking & Finance, Elsevier, vol. 25(8), pages 1427-1445, August.
    5. Eliseo Navarro & Juan M. Nave, 1997. "A two-factor duration model for interest rate risk management," Investigaciones Economicas, Fundación SEPI, vol. 21(1), pages 55-74, January.
    6. Roncoroni, Andrea & Galluccio, Stefano & Guiotto, Paolo, 2010. "Shape factors and cross-sectional risk," Journal of Economic Dynamics and Control, Elsevier, vol. 34(11), pages 2320-2340, November.
    7. Carcano, Nicola & Foresi, Silverio, 1997. "Hedging against interest rate risk: Reconsidering volatility-adjusted immunization," Journal of Banking & Finance, Elsevier, vol. 21(2), pages 127-141, February.
    8. Sonia Benito & Alfonso Novales Cinca, 2005. "A factor analysis of volatility across the term structure: the Spanish case," Documentos de Trabajo del ICAE 0502, Universidad Complutense de Madrid, Facultad de Ciencias Económicas y Empresariales, Instituto Complutense de Análisis Económico.
    9. López, Susana, 2001. "Financial innovation and arbitrage in the Spanish bond market," DEE - Working Papers. Business Economics. WB wb010101, Universidad Carlos III de Madrid. Departamento de Economía de la Empresa.
    10. Jorge Miguel Ventura Bravo & Carlos Manuel Pereira da Silva, 2005. "Immunization Using a Parametric Model of the Term Structure," Economics Working Papers 19_2005, University of Évora, Department of Economics (Portugal).
    11. Rose, Andrew K., 2004. "Do WTO members have more liberal trade policy?," Journal of International Economics, Elsevier, vol. 63(2), pages 209-235, July.
    12. Soto, Gloria M., 2004. "Duration models and IRR management: A question of dimensions?," Journal of Banking & Finance, Elsevier, vol. 28(5), pages 1089-1110, May.
    13. Michael Theobald & Peter Yallup, 2010. "Liability-driven investment: multiple liabilities and the question of the number of moments," The European Journal of Finance, Taylor & Francis Journals, vol. 16(5), pages 413-435.
    14. Balbas, Alejandro & Ibanez, Alfredo, 1998. "When can you immunize a bond portfolio?," Journal of Banking & Finance, Elsevier, vol. 22(12), pages 1571-1595, December.
    15. Galluccio, Stefano & Roncoroni, Andrea, 2006. "A new measure of cross-sectional risk and its empirical implications for portfolio risk management," Journal of Banking & Finance, Elsevier, vol. 30(8), pages 2387-2408, August.
    16. López, Susana, 2000. "Envelopes for the term structure of interest rates," DEE - Working Papers. Business Economics. WB 9966, Universidad Carlos III de Madrid. Departamento de Economía de la Empresa.
    17. Edward J. Elton & Martin J. Gruber & Deepak Agrawal & Christopher Mann, 1999. "Explaining the Rate Spread on Corporate Bonds," New York University, Leonard N. Stern School Finance Department Working Paper Seires 99-082, New York University, Leonard N. Stern School of Business-.
    18. Elton, Edwin J. & Gruber, Martin J. & Mei, Jianping, 1996. "Return generating process and the determinants of term premiums," Journal of Banking & Finance, Elsevier, vol. 20(7), pages 1251-1269, August.
    19. Soto, Gloria M., 2001. "Immunization derived from a polynomial duration vector in the Spanish bond market," Journal of Banking & Finance, Elsevier, vol. 25(6), pages 1037-1057, June.
    20. Nawalkha, Sanjay K. & Soto, Gloria M. & Zhang, Jun, 2003. "Generalized M-vector models for hedging interest rate risk," Journal of Banking & Finance, Elsevier, vol. 27(8), pages 1581-1604, August.
    21. Pilar Abad & Sonia Benito, 2006. "Valor en Riesgo en carteras de renta fija: una comparación entre modelos empíricos de la estructura temporal," Documentos de Trabajo del ICAE 0604, Universidad Complutense de Madrid, Facultad de Ciencias Económicas y Empresariales, Instituto Complutense de Análisis Económico.
    22. Pilar Abad Romero, 2003. "Un Contraste Alternativo De La Hipótesis De Las Expectativas En Swaps De Tipos De Interés," Working Papers 0306, Universidade de Vigo, Departamento de Economía Aplicada.
    23. David Atance & Alejandro Balbás & Eliseo Navarro, 2020. "Constructing dynamic life tables with a single-factor model," Decisions in Economics and Finance, Springer;Associazione per la Matematica, vol. 43(2), pages 787-825, December.
    24. Ioannides, Michalis, 2003. "A comparison of yield curve estimation techniques using UK data," Journal of Banking & Finance, Elsevier, vol. 27(1), pages 1-26, January.

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