The Role of Jumps and Options in the Risk Premia of Interest Rates

Bruno Lund

Brazilian Review of Econometrics, 2019, vol. 38, issue 2

Abstract: There is evidence that jumps double the explanatory power of Campbell and Shiller (1991) excess bond returns’ regressions (Wright and Zhou, 2009), and options bring information about bond risk premia beyond that spanned by the yield curve (Joslin, 2007). In this paper I incorporate these features in a Gaussian Affine Term Structure Model (ATSM) in order to assess two questions: (1) what are the implications of incorporating jumps in an ATSM for option pricing, and (2) how jumps and options affect the bond risk-premia dynamics.The main findings are: (1) jump risk-premia is negative in a scenario of decreasing interest rates, and has a significant average magnitude of 1% to 2%, which means that, it explains 10% to 20% of the level of the yields; (2) the Gaussian model (A30) and the Gaussian model with constant intensity jumps (A30J) are the ones that best fit the option prices; and (3) the Gaussian model with constant intensity jumps estimated jointly with options (A30oJ) is the one that best identifies the risk premium.

Date: 2019
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
https://periodicos.fgv.br/bre/article/view/18997 (text/html)

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:sbe:breart:v:38:y:2019:i:2:a:18997

Access Statistics for this article

Brazilian Review of Econometrics is currently edited by Daniel Monte

More articles in Brazilian Review of Econometrics from Sociedade Brasileira de Econometria - SBE Contact information at EDIRC.
Bibliographic data for series maintained by Núcleo de Computação da FGV EPGE ().