"Stiff" Field Theory of Interest Rates and Psychological Future Time

Belal Baaquie and Jean-Philippe Bouchaud
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Belal Baaquie: National University of Singapore, Department of Physics
Jean-Philippe Bouchaud: Science & Finance, Capital Fund Management

No 500064, Science & Finance (CFM) working paper archive from Science & Finance, Capital Fund Management

Abstract: The simplest field theory description of the multivariate statistics of forward rate variations over time and maturities, involves a quadratic action containing a gradient squared rigidity term. However, this choice leads to a spurious kink (infinite curvature) of the normalized correlation function for coinciding maturities. Motivated by empirical results, we consider an extended action that contains a squared Laplacian term, which describes the bending stiffness of the FRC. With the extra ingredient of a `psychological' future time, describing how the perceived time between events depends on the time in the future, our theory accounts extremely well for the phenomenology of interest rate dynamics.

JEL-codes: G10 (search for similar items in EconPapers)
Date: 2004-03
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Persistent link: http://EconPapers.repec.org/RePEc:sfi:sfiwpa:500064

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