IDEAS home Printed from https://ideas.repec.org/p/sce/scecf9/111.html
   My bibliography  Save this paper

Nonparametric Estimation of Multifactor Continuous Time Interest-Rate Models

Author

Listed:
  • Christopher T. Downing

    (Board of Governors, Federal Reserve)

Abstract

In this paper we study the finite sample properties of the nonparametric method developed by Stanton and later extended by Boudoukh, et al. for the estimation of the drifts and diffusions of multifactor continuous-time term-structure models. Monte Carlo simulations from a known parametric model are employed to calculate the performance of the estimator. The paper focuses on the issue of optimal bandwidth selection. The results suggest that, for persistent data-generating processes exhibiting stochastic volatility, such as interest rate data, a bandwidth function that varies over the surface of the data is optimal. The paper also presents a computationally intensive bandwidth-selection procedure that uses dynamic graphics, combining the computational power of the machine with the pattern-recognition abilities of the human brain. The Monte Carlo simulations require the numeric solution of a system of stochastic differential equations. The paper also presents a nonparametric test for the validity of the solutions. This test is useful in other estimation algorithms, such as the efficient method of moments, where numeric solutions of stochastic differential equations are required. The test is also useful as a tool for understanding how the length of the time step used in the numeric solution of the stochastic differential solutions affects the accuracy of the solution.

Suggested Citation

  • Christopher T. Downing, 1999. "Nonparametric Estimation of Multifactor Continuous Time Interest-Rate Models," Computing in Economics and Finance 1999 111, Society for Computational Economics.
    • Handle: RePEc:sce:scecf9:111
    as

    Download full text from publisher

    File URL: http://fmwww.bc.edu/cef99/papers/NONP.PDF
    File Function: main text
    Download Restriction: no
    ---><---

    References listed on IDEAS

    as
    1. David A. Chapman & Neil D. Pearson, 2000. "Is the Short Rate Drift Actually Nonlinear?," Journal of Finance, American Finance Association, vol. 55(1), pages 355-388, February.
    2. Gallant, A. Ronald & Tauchen, George, 1996. "Which Moments to Match?," Econometric Theory, Cambridge University Press, vol. 12(4), pages 657-681, October.
    3. Hardle, Wolfgang & Linton, Oliver, 1986. "Applied nonparametric methods," Handbook of Econometrics, in: R. F. Engle & D. McFadden (ed.), Handbook of Econometrics, edition 1, volume 4, chapter 38, pages 2295-2339, Elsevier.
    4. Andersen, Torben G. & Lund, Jesper, 1997. "Estimating continuous-time stochastic volatility models of the short-term interest rate," Journal of Econometrics, Elsevier, vol. 77(2), pages 343-377, April.
    5. Pritsker, Matt, 1998. "Nonparametric Density Estimation and Tests of Continuous Time Interest Rate Models," The Review of Financial Studies, Society for Financial Studies, vol. 11(3), pages 449-487.
    6. Hardle, Wolfgang & Linton, Oliver, 1986. "Applied nonparametric methods," Handbook of Econometrics, in: R. F. Engle & D. McFadden (ed.), Handbook of Econometrics, edition 1, volume 4, chapter 38, pages 2295-2339, Elsevier.
    7. repec:cup:etheor:v:12:y:1996:i:4:p:657-81 is not listed on IDEAS
    8. Ait-Sahalia, Yacine, 1996. "Testing Continuous-Time Models of the Spot Interest Rate," The Review of Financial Studies, Society for Financial Studies, vol. 9(2), pages 385-426.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Antonio Mele, 2003. "Fundamental Properties of Bond Prices in Models of the Short-Term Rate," The Review of Financial Studies, Society for Financial Studies, vol. 16(3), pages 679-716, July.
    2. Teresa Corzo Santamaría & Javier Gómez Biscarri, 2005. "Nonparametric estimation of convergence of interest rates: Effects on bond pricing," Spanish Economic Review, Springer;Spanish Economic Association, vol. 7(3), pages 167-190, September.
    3. Ang, Andrew & Bekaert, Geert, 2002. "Short rate nonlinearities and regime switches," Journal of Economic Dynamics and Control, Elsevier, vol. 26(7-8), pages 1243-1274, July.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. repec:wyi:journl:002108 is not listed on IDEAS
    2. Czellar, Veronika & Karolyi, G. Andrew & Ronchetti, Elvezio, 2007. "Indirect robust estimation of the short-term interest rate process," Journal of Empirical Finance, Elsevier, vol. 14(4), pages 546-563, September.
    3. Zongwu Cai & Yongmiao Hong, 2013. "Some Recent Developments in Nonparametric Finance," Working Papers 2013-10-14, Wang Yanan Institute for Studies in Economics (WISE), Xiamen University.
    4. Jun Yu & Peter C. B. Phillips, 2001. "A Gaussian approach for continuous time models of the short-term interest rate," Econometrics Journal, Royal Economic Society, vol. 4(2), pages 1-3.
    5. Cai, Zongwu & Hong, Yongmiao, 2003. "Nonparametric Methods in Continuous-Time Finance: A Selective Review," SFB 373 Discussion Papers 2003,15, Humboldt University of Berlin, Interdisciplinary Research Project 373: Quantification and Simulation of Economic Processes.
    6. repec:ehu:dfaeii:6754 is not listed on IDEAS
    7. Cai, Lili & Swanson, Norman R., 2011. "In- and out-of-sample specification analysis of spot rate models: Further evidence for the period 1982-2008," Journal of Empirical Finance, Elsevier, vol. 18(4), pages 743-764, September.
    8. Christopher S. Jones, 2003. "Nonlinear Mean Reversion in the Short-Term Interest Rate," The Review of Financial Studies, Society for Financial Studies, vol. 16(3), pages 793-843, July.
    9. Jun Yu & Peter C.B. Phillips, 2001. "Gaussian Estimation of Continuous Time Models of the Short Term Interest Rate," Cowles Foundation Discussion Papers 1309, Cowles Foundation for Research in Economics, Yale University.
    10. Song, Zhaogang, 2011. "A martingale approach for testing diffusion models based on infinitesimal operator," Journal of Econometrics, Elsevier, vol. 162(2), pages 189-212, June.
    11. Roberto Reno', 2004. "Nonparametric Estimation of the Diffusion Coefficient via Fourier Analysis, with Aplication to Short Rate Modeling," Department of Economics University of Siena 440, Department of Economics, University of Siena.
    12. Gil-Bazo Javier & Rubio Gonzalo, 2004. "A Nonparametric Dimension Test of the Term Structure," Studies in Nonlinear Dynamics & Econometrics, De Gruyter, vol. 8(3), pages 1-28, September.
    13. Bin Chen & Yongmiao Hong, 2013. "Characteristic Function-Based Testing for Multifactor Continuous-Time Markov Models via Nonparametri," Working Papers 2013-10-14, Wang Yanan Institute for Studies in Economics (WISE), Xiamen University.
    14. Hao Zhou, 2003. "Itô Conditional Moment Generator and the Estimation of Short-Rate Processes," Journal of Financial Econometrics, Oxford University Press, vol. 1(2), pages 250-271.
    15. repec:wyi:journl:002064 is not listed on IDEAS
    16. Kristensen, Dennis, 2004. "A semiparametric single-factor model of the term structure," LSE Research Online Documents on Economics 24741, London School of Economics and Political Science, LSE Library.
    17. Roger WALDER, 2002. "Interactions Between Market and Credit Risk: Modeling the Joint Dynamics of Default-Free and Defaultable Bond Term Structures," FAME Research Paper Series rp56, International Center for Financial Asset Management and Engineering.
    18. Lourdes Gómez-Valle & Julia Martínez-Rodríguez, 2010. "Improving the term structure of interest rates: two-factor models," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 15(3), pages 275-287.
    19. Roberto Reno' & Antonio Roma & Stephen Schaefer, 2004. "A Comparison of Alternative Nonparametric Estimators of the Short Rate Diffusion Coefficient," Department of Economics University of Siena 445, Department of Economics, University of Siena.
    20. Jacob Boudoukh & Matthew Richardson & Richard Stanton & Robert Whitelaw, 1999. "A Multifactor, Nonlinear, Continuous-Time Model of Interest Rate Volatility," New York University, Leonard N. Stern School Finance Department Working Paper Seires 99-042, New York University, Leonard N. Stern School of Business-.
    21. Al-Zoubi, Haitham A., 2009. "Short-term spot rate models with nonparametric deterministic drift," The Quarterly Review of Economics and Finance, Elsevier, vol. 49(3), pages 731-747, August.
    22. Hao Zhou, 2001. "Jump-diffusion term structure and Ito conditional moment generator," Finance and Economics Discussion Series 2001-28, Board of Governors of the Federal Reserve System (U.S.).

    More about this item

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:sce:scecf9:111. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Christopher F. Baum (email available below). General contact details of provider: https://edirc.repec.org/data/sceeeea.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.