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Nested Tests of Alternative Term-Structure Theories

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  • Kane, Edward J

Abstract

Controversies in term-structure theory center around the existence and variability of term premia in securities yields. In this paper, the term premium on a default-free n-period bond is defined as the difference between its observable yield to maturity and the average expected per-annum rate of return on an n-period strip of rollover investments in one-period bonds. To test alternative term-structure theories without introducing ex post proxies for expectational variables, this paper uses a set of cross-section interest-rate forecasts collected jointly with Burton Malkiel of Princeton University from a population of large institutional lenders at four different phases of a single interest-rate cycle. Statistical tests strongly confirm the existence of nonzero term premia at each survey date, thereby rejecting the pure-expectations theory of the term structure. Additional tests are unable to reject restrictions implied by the liquidity-premium hypothesis that term premia should be positive and increase with maturity. Finally, contrary to the martingale hypothesis, ex ante term-premium data vary significantly overtime and show a positive association with the level of interest rates.
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  • Kane, Edward J, 1983. "Nested Tests of Alternative Term-Structure Theories," The Review of Economics and Statistics, MIT Press, vol. 65(1), pages 115-123, February.
    • Handle: RePEc:tpr:restat:v:65:y:1983:i:1:p:115-23
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    Cited by:

    1. Ronald MacDonald, 2000. "Expectations Formation and Risk in Three Financial Markets: Surveying What the Surveys Say," Journal of Economic Surveys, Wiley Blackwell, vol. 14(1), pages 69-100, February.
    2. Melino, Angelo, 1988. "The Term Structure of Interest Rates: Evidence and Theory," Journal of Economic Surveys, Wiley Blackwell, vol. 2(4), pages 335-366.
    3. Timothy Q. Cook & Thomas K. Hahn, 1990. "Interest rate expectations and the slope of the money market yield curve," Economic Review, Federal Reserve Bank of Richmond, vol. 76(Sep), pages 3-26.
    4. A. DAVID McDONALD & JON D. KENDALL & TIM LA. RIDLEY, 1993. "GARCH‐M Estimates of Variable Risk Premia for 180‐day Australian Bank Bills," The Economic Record, The Economic Society of Australia, vol. 69(1), pages 10-19, March.
    5. Awaludin, Fadhlee & Masih, Mansur, 2015. "Sukuk pricing dynamics - factors influencing yield curve of the Malaysian Sukuk," MPRA Paper 66355, University Library of Munich, Germany.
    6. Thomas C. Chiang & Douglas R. Kahl, 1991. "Forecasting The Treasury Bill Rate: A Time-Varying Coefficient Approach," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 14(4), pages 327-336, December.
    7. Leiderman, Leonardo & Blejer, Mario I., 1983. "New Evidence on the Rational Expectations Theory of the Term Structure: The Case of Argentine Interest Rates," Foerder Institute for Economic Research Working Papers 275370, Tel-Aviv University > Foerder Institute for Economic Research.
    8. Benjamin M. Friedman, 1985. "The Substitutability of Debt and Equity Securities," NBER Chapters, in: Corporate Capital Structures in the United States, pages 197-238, National Bureau of Economic Research, Inc.
    9. Dániel Horváth & Péter Kálmán & Zalán Kocsis & Imre Ligeti, 2014. "What factors influence the yield curve?," MNB Bulletin (discontinued), Magyar Nemzeti Bank (Central Bank of Hungary), vol. 9(1), pages 28-39, March.
    10. Jay B. Morrison & David H. Pyle, 1978. "Interest Rate Risk and the Regulation of Financial Institutions," NBER Working Papers 0266, National Bureau of Economic Research, Inc.
    11. Benjamin M. Friedman, 1983. "The Substitutability of Debt and Equity Securities," NBER Working Papers 1130, National Bureau of Economic Research, Inc.
    12. Nourzad, Farrokh & Scott Grennier, R., 1995. "Cointegration analysis of the expectations theory of the term structure," Journal of Economics and Business, Elsevier, vol. 47(3), pages 281-292, August.

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