An Empirical Investigation of the Two-Factor Brennan-Schwartz Term Structure Model

Chin-Wen Hsin

Review of Quantitative Finance and Accounting, 1995, vol. 5, issue 1, 92 pages

Abstract: This paper studies the pricing behaviors of default-free bonds based on the two-factor model by Brennan and Schwartz (1979), where a short-term spot rate and a long-term consol rate are the state variables. The logarithm of these two factors is assumed to follow a linear transformation of an Ornstein-Uhlenbeck process. An exact discrete time model is derived to estimate the parameters in the process. The model prices are then numerically solved. The sensitivity analysis indicates that the long-rate process, especially the long-rate volatility parameter, is important in characterizing the term structure of interest rates. Copyright 1995 by Kluwer Academic Publishers

Date: 1995
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