DP4165 On Model Selection and Markov Switching: A Empirical Examination of Term Structure Models with Regime Shifts
|Author(s):||John Driffill, Turalay Kenc, Martin Sola, Fabio Spagnolo|
|Publication Date:||January 2004|
|Keyword(s):||bond yields, regime switching, stochastic discount factor/pricing kernel, term structure of interest rates|
|Programme Areas:||International Macroeconomics, Financial Economics|
|Link to this Page:||cepr.org/active/publications/discussion_papers/dp.php?dpno=4165|
We examine several continuous-time term-structure models, in which the short rate is subject to discrete shifts. Our empirical analysis suggests that inquiring which parameters of the short-term interest rate equation are allowed to switch is crucial, as failing to do so may result in switching pricing models that produce no improvement (in terms of pricing) with respect to models which do not allow for regime switching, even when there are clear breaks in the data.