A Gaussian Process of Yield Rates Calibrated with Strips

J. F. Carrière

North American Actuarial Journal, 2001, vol. 5, issue 3, 19-30

Abstract: This paper presents a Gaussian multivariate factor model of the term structure of interest rates. It shows that there exists a martingale valuation law of the factors so that the price function of a zero-coupon bond is an exponential spline. The model’s linear and Gaussian structure yields a simple model where estimation and calibration are relatively easy to do. Using yield data on stripped bonds, the spline model gives a very good approximation of the yield curve at all times. Moreover, the crucial Gaussian assumption is reasonable when modeling the dynamics for short periods like one year.

Date: 2001
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DOI: 10.1080/10920277.2001.10595995

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