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RecordNumber
2254
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Author
LONGSTAFF, FRANCIS A.
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Crop_Body
FRANCIS A. LONGSTAFF and EDUARDO S. SCHWARTZ
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Title of Article
Interest Rate Volatility and the Term Structure: A Two-Factor General Equilibrium Model
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Title Of Journal
THE JOURNAL OF FINANCE
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Publication Year
SEPTEMBER 1992
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Volum
XLVII
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Issue Number
4
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Page
1259-1282
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Abstract
We develop a two-factor general equilibrium model of the term structure. The factors are the short-term interest rate and the volatility of the short-term interest rate. We derive closed-form expressions for discount bonds and study the properties of the term structure implied by the model. The dependence of yields on volatility allows the model to capture many observed properties of the term structure. We also derive closed-form expressions for discount bond options. We use Hansen's generalized method of moments framework to test the cross-sectional restrictions imposed by the model. The tests support the two-factor model.
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URL
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