Kriging of financial term-structures

Areski Cousin, Hassan Maatouk and Didier Rulli\`ere
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Areski Cousin: SAF
Hassan Maatouk: GdR MASCOT-NUM, LIMOS, DEMO-ENSMSE
Didier Rulli\`ere: SAF
Authors registered in the RePEc Author Service: Didier Rulliere ()

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Abstract: Due to the lack of reliable market information, building financial term-structures may be associated with a significant degree of uncertainty. In this paper, we propose a new term-structure interpolation method that extends classical spline techniques by additionally allowing for quantification of uncertainty. The proposed method is based on a generalization of kriging models with linear equality constraints (market-fit conditions) and shape-preserving conditions such as monotonicity or positivity (no-arbitrage conditions). We define the most likely curve and show how to build confidence bands. The Gaussian process covariance hyper-parameters under the construction constraints are estimated using cross-validation techniques. Based on observed market quotes at different dates, we demonstrate the efficiency of the method by building curves together with confidence intervals for term-structures of OIS discount rates, of zero-coupon swaps rates and of CDS implied default probabilities. We also show how to construct interest-rate surfaces or default probability surfaces by considering time (quotation dates) as an additional dimension.

Date: 2016-04
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Citations: View citations in EconPapers (13)

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http://arxiv.org/pdf/1604.02237 Latest version (application/pdf)

Related works:
Journal Article: Kriging of financial term-structures (2016)
Working Paper: Kriging of financial term-structures (2016)
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Persistent link: https://EconPapers.repec.org/RePEc:arx:papers:1604.02237

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