Abstract
In this paper, we show how to construct dynamic forward rate models in terms of exogenously specified eigenfunctions (or factor loadings). We also show how to link forward rate models with different number of driving Brownian motions to each other in a way consistent with the implied eigenfunctions. Finally, we discuss how to best parameterize the models in the sense of maximizing the number of free parameters for a given set of eigenfunctions.
| Original language | English |
|---|---|
| Article number | 1450029 |
| Number of pages | 20 |
| Journal | International Journal of Theoretical and Applied Finance |
| Volume | 17 |
| Issue number | 5 |
| DOIs | |
| Publication status | Published - 2014 Jul 29 |
Subject classification (UKÄ)
- Economics
Free keywords
- interest rates
- yield curve
- term structure
- forward rates
- principal component analysis
- Karhunen–Loève expansion