TY - JOUR
T1 - Does curvature enhance forecastinga?
AU - Almeida, Caio
AU - Gomes, Romeu
AU - Leite, André
AU - Simonsen, Axel
AU - Vicente, José
N1 - Funding Information:
We thank an anonymous referee for important comments. The views expressed are those of the authors and do not necessarily reflect those of the Central Bank of Brazil. The first author gratefully acknowledges financial support from CNPq-Brazil.
PY - 2009/12
Y1 - 2009/12
N2 - In this paper, we analyze the importance of curvature term structure movements on forecasts of interest rates. An extension of the exponential three-factor Diebold and Li (2006) model is proposed, where a fourth factor captures a second type of curvature. The new factor increases model ability to generate volatility and to capture nonlinearities in the yield curve, leading to a significant improvement of forecasting ability. The model is tested against the original Diebold and Li model and some other benchmarks. Based on a forecasting experiment with Brazilian fixed income data, it obtains significantly lower bias and root mean square errors for most examined maturities, and under three different forecasting horizons. Robustness tests based on two sub-sample analyses partially confirm the favorable results.
AB - In this paper, we analyze the importance of curvature term structure movements on forecasts of interest rates. An extension of the exponential three-factor Diebold and Li (2006) model is proposed, where a fourth factor captures a second type of curvature. The new factor increases model ability to generate volatility and to capture nonlinearities in the yield curve, leading to a significant improvement of forecasting ability. The model is tested against the original Diebold and Li model and some other benchmarks. Based on a forecasting experiment with Brazilian fixed income data, it obtains significantly lower bias and root mean square errors for most examined maturities, and under three different forecasting horizons. Robustness tests based on two sub-sample analyses partially confirm the favorable results.
KW - Interest rate mean forecasting
KW - Parametric term structure models
KW - Principal components
KW - Vector auto-regressive models
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U2 - 10.1142/S0219024909005622
DO - 10.1142/S0219024909005622
M3 - Article
AN - SCOPUS:75649138351
SN - 0219-0249
VL - 12
SP - 1171
EP - 1196
JO - International Journal of Theoretical and Applied Finance
JF - International Journal of Theoretical and Applied Finance
IS - 8
ER -