Abstract
We investigate a jump‐diffusion process, which is a mixture of an O‐U process used by Vasicek (1977) and a compound Poisson jump process, for the term structure of interest rates. We develop a methodology for estimating the jump‐diffusion model and complete an empirical study in comparing the model with the Vasicek model, for the US money market interest rates. The results show that when the short‐term interest rate is low, both models predict an upward sloping term structure, with the jump‐diffusion model fitting the actual term structure quite well and the Vasicek model overestimating significantly. When the short‐term interest rate is high, both models predict a downward sloping term structure, with the jump‐diffusion model underestimating the actual term structure more significantly than the Vasicek model.
Published Version
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