Discrete-time affine term structure models with generalized market prices of risk

Anh Le, Kenneth J. Singleton, Qiang Dai

Research output: Contribution to journalArticle

50 Scopus citations

Abstract

This article develops a rich class of discrete-time, nonlinear dynamic term structure models (DTSMs). Under the risk-neutral measure, the distribution of the state vector Xt resides within a family of discrete-time affine processes that nests the exact discrete-time counterparts of the entire class of continuous-time models in Duffie and Kan (1996) and Dai and Singleton (2000). Under the historical distribution, our approach accommodates nonlinear (nonaffine) processes while leading to closed-form expressions for the conditional likelihood functions for zero-coupon bond yields. As motivation for our framework, we show that it encompasses many of the equilibrium models with habit-based preferences or recursive preferences and long-run risks. We illustrate our methods by constructing maximum likelihood estimates of a nonlinear discrete-time DTSM with habit-based preferences in which bond prices are known in closed form. We conclude that habit-based models, as typically parameterized in the literature, do not match key features of the conditional distribution of bond yields.

Original languageEnglish (US)
Pages (from-to)2184-2227
Number of pages44
JournalReview of Financial Studies
Volume23
Issue number5
DOIs
StatePublished - May 1 2010

All Science Journal Classification (ASJC) codes

  • Accounting
  • Finance
  • Economics and Econometrics

Fingerprint Dive into the research topics of 'Discrete-time affine term structure models with generalized market prices of risk'. Together they form a unique fingerprint.

  • Cite this