 Can interest rate volatility be extracted from the cross section of bond yields?Pierre Collin-Dufresne, Robert S. Goldstein and Christopher S. Jones Journal of Financial Economics, 2009, vol. 94, issue 1, 47-66 Abstract: Most affine models of the term structure with stochastic volatility predict that the variance of the short rate should play a 'dual role' in that it should also equal a linear combination of yields. However, we find that estimation of a standard affine three-factor model results in a variance state variable that, while instrumental in explaining the shape of the yield curve, is essentially unrelated to GARCH estimates of the quadratic variation of the spot rate process or to implied variances from options. We then investigate four-factor affine models. Of the models tested, only the model that exhibits 'unspanned stochastic volatility' (USV) generates both realistic short rate volatility estimates and a good cross-sectional fit. Our findings suggest that short rate volatility cannot be extracted from the cross-section of bond prices. In particular, short rate volatility and convexity are only weakly correlated. Keywords: Term; structure; of; interest; rates; Affine; models; Stochastic; volatility (search for similar items in EconPapers) Downloads: (external link) Related works: Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text Persistent link: https://EconPapers.repec.org/RePEc:eee:jfinec:v:94:y:2009:i:1:p:47-66 Access Statistics for this article Journal of Financial Economics is currently edited by G. William Schwert More articles in Journal of Financial Economics from Elsevier |
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