Abstract
Since zero-coupon rates are rarely directly observable, they have to be estimated from market data. In this paper we review several widely-used parametric term structure estimation methods. We propose a weighted constrained optimization procedure with analytical gradients and a globally optimal start parameter search algorithm. Moreover, we introduce the <b>R</b> package <b>termstrc</b>, which offers a wide range of functions for term structure estimation based on static and dynamic coupon bond and yield data sets. It provides extensive summary statistics and plots to compare the results of the different estimation methods. We illustrate the application of the package through practical examples using market data from European government bonds and yields.
Highlights
The term structure of interest rates or the zero-coupon yield curve is the relationship between fixed income investments with only one payment at maturity and the time to maturity of this cashflow
It is used in different areas of application, e.g. risk management, financial engineering, monetary policy issues
Before we come to the problem of zero-coupon yield curve estimation, let us introduce the definitions of a few basic terms used in the fixed income literature
Summary
The term structure of interest rates or the zero-coupon yield curve is the relationship between fixed income investments with only one payment at maturity and the time to maturity of this cashflow. It is used in different areas of application, e.g. risk management, financial engineering, monetary policy issues. The fair price of a bond is the sum of its discounted future coupon and redemption payments. By comparing this fair price to the price on the market, we can identify mispriced securities. The numerous areas of application for the term structure of interest rates have lead to a fairly large amount of publications by researchers and practitioners
Talk to us
Join us for a 30 min session where you can share your feedback and ask us any queries you have