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    Estimating and forecasting the yield curve using a Markov Switching Dynamic Nelson and Siegel Model

    Hevia, C. and Gonzalez-Rozada, M. and Sola, Martin and Spagnolo, F. (2014) Estimating and forecasting the yield curve using a Markov Switching Dynamic Nelson and Siegel Model. Working Paper. Birkbeck, University of London, London, UK.

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    Abstract

    We estimate versions of the Nelson-Siegel model of the yield curve of U.S. government bonds using a Markov switching latent variable model that allows for discrete changes in the stochastic process followed by the interest rates. Our modeling approach is motivated by evidence suggesting the existence of breaks in the behavior of the U.S. yield curve that depend, for example, on whether the economy is in a recession or a boom, or on the stance of monetary policy. Our model is parsimonious, relatively easy to estimate, and �exible enough to match the changing shapes of the yield curve over time. We also derive the discrete time non-arbitrage restrictions for the Markov switching model. We compare the forecasting performance of these models with that of the standard dynamic Nelson and Siegel model and an extension that allows the decay rate parameter to be time-varying. We show that some parameterizations of our model with regime shifts outperform the single regime Nelson and Siegel model and other standard empirical models of the yield curve.

    Metadata

    Item Type: Monograph (Working Paper)
    Additional Information: BCAM 1403; ISSN 1745-8587
    Keyword(s) / Subject(s): Yield Curve, Term structure of interest rates, Markov regime switching, Maximum likelihood, Risk premium
    School: Birkbeck Schools and Departments > School of Business, Economics & Informatics > Economics, Mathematics and Statistics
    Research Centre: Applied Macroeconomics, Birkbeck Centre for
    Depositing User: Administrator
    Date Deposited: 21 Mar 2019 16:15
    Last Modified: 26 Jul 2019 18:19
    URI: http://eprints.bbk.ac.uk/id/eprint/26588

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