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Measuring Risk in Fixed Payment Securities: An Empirical Test of the Structured Full Rank Covariance Matrix

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  • Hilliard, Jimmy E.
  • Jordan, Susan D.

Abstract

The appropriate set of parameters determining the volatility of the value of a portfolio of fixed cash flows of arbitrary maturities is the covariance matrix of unexpected interest rate changes over the term. Equilibrium models of the term structure limit the rank of the covariance matrix and implicitly impose restrictions on covariance estimation. The “full information” approach to risk measurement imposes only time stationarity assumptions on covariance matrix estimators and can result in sample matrices of full rank. Hilliard and Jordan (1989) develop a structured full rank covariance matrix that depends on only two parameters. This paper tests the Hilliard-Jordan model using likelihood ratios and criteria of forecast accuracy.

Suggested Citation

  • Hilliard, Jimmy E. & Jordan, Susan D., 1991. "Measuring Risk in Fixed Payment Securities: An Empirical Test of the Structured Full Rank Covariance Matrix," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 26(3), pages 345-362, September.
    • Handle: RePEc:cup:jfinqa:v:26:y:1991:i:03:p:345-362_00
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    Cited by:

    1. 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.
    2. Jimmy E. Hilliard & Susan D. Jordan, 1992. "Hedging Interest Rate Risk Under Term Structure Effects: An Application To Financial Institutions," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 15(4), pages 355-368, December.

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