Correcting estimation bias in regime switching dynamic term structure models

Sungjun Cho () and Liu Liu ()
Additional contact information
Sungjun Cho: The University of Manchester
Liu Liu: Xi’an Jiaotong-Liverpool University

Review of Quantitative Finance and Accounting, 2023, vol. 61, issue 3, No 10, 1093-1127

Abstract: Abstract This paper extends the minimum-chi-square estimation for affine term structure models to a regime switching framework, and corrects the estimation bias in the regime switching dynamic term structure model. Biases arise as a result of highly persistent bond yields, and bias correction changes the decomposition of medium- and long-term forward rates. The bias-corrected expected short rate accounts for the pronounced moves in forward rates during the 1979–1982 monetary experiment and the financial crisis. The bias-corrected term premium becomes counter-cyclical and more negatively correlated with the short-term yield. Monte Carlo simulation shows that the decomposition of forward rates is more accurate after bias correction.

Keywords: Small sample bias correction; Term structure; Regime switching (search for similar items in EconPapers)
JEL-codes: C13 E43 G12 (search for similar items in EconPapers)
Date: 2023
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
http://link.springer.com/10.1007/s11156-023-01182-z Abstract (text/html)
Access to full text is restricted to subscribers.

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:kap:rqfnac:v:61:y:2023:i:3:d:10.1007_s11156-023-01182-z

Ordering information: This journal article can be ordered from
http://www.springer.com/finance/journal/11156/PS2

DOI: 10.1007/s11156-023-01182-z

Access Statistics for this article

Review of Quantitative Finance and Accounting is currently edited by Cheng-Few Lee

More articles in Review of Quantitative Finance and Accounting from Springer
Bibliographic data for series maintained by Sonal Shukla () and Springer Nature Abstracting and Indexing ().