Abstract
China’s bonds market has developed rapidly in recent years. A further study of interest rate term structure is essential. Nelson-Siegel model is widely used to fit interest rate term structure around the world. In this essay, we try to find out whether Nelson-Siegel model is efficiency in China, and which model is most efficient among some typical variants of Nelson-Siegel model. After brief theoretical introduction, we conduct empirical analysis, which contains two sections. In the first session, we focus on fitting Chinese interest rate term structure using Nelson-Siegel model, and fitting efficiency turns out to be pretty good. In the second section, we establish a VAR model with macroeconomic variables to predict parameters in Nelson-Siegel model, and use the combination of VAR and NS model to predict interest rate term structure in 2019 and 2020 respectively. Also, in terms of prediction efficiency, VAR (Macro)-NS model performs better than both VAR-NS model without macroeconomic variables and simple NS model.
Highlights
Interest rate is one of most important variables in the financial market, which can depict the relationship between money supply and money demand
We focus on fitting Chinese interest rate term structure using Nelson-Siegel model, and fitting efficiency turns out to be pretty good
Treasury bond yield curve reflects the relationship between bond yield and term to maturity, so it is known as interest rate term structure
Summary
Interest rate is one of most important variables in the financial market, which can depict the relationship between money supply and money demand. With the progress of interest rate marketization, does China’s treasury bond yield curve becomes more easy to predict? This paper uses the method put up by Nelson & Siegel (1987), to fit treasury bond yield curve. The paper fits China’s treasury bond yield curve using Nelson-Siegel method and tests its efficiency. Based on trade experience in Chinese bond market, the paper introduced several typical macroeconomic variables into dynamic Nelson-Siegel model, and established VAR(Macro)-NS model. There are already scholars around the world discussing the effect from macro variables on term structure, the importance of this topic is not highlighted in China, partly because of long-term regulated interest rate market and difficulty to get raw market data.
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