Presentation of the paper :

No Arbitrage Priors, Drifting Volatilities, and the Term Structure of Interest Rates

Speaker: 

Andrea Carriero

Queen Mary

Abstract

In this paper we propose a method to produce density forecasts of the term structure of government bond yields which takes into account (i) the possible mispecification of an underlying No Arbitrage model and (ii) the time varying volatility of interest rates. In order to do so we derive a prior from a Gaussian no arbitrage model, and we specify a common, multiplicative, time varying volatility for the vector autoregressive (VAR) disturbances. Results based on U.S. data show that this method significantly improves the precision of point and density forecasts of the term structure.

coauthors: Todd E. Clark (Federal Reserve Bank of Cleveland) e Massimiliano Marcellino (European University Institute, Bocconi e CEPR).