An arbitrage-free generalized Nelson-Siegel term structure model

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Abstract

The Svensson generalization of the popular Nelson-Siegel term structure model is widely used by practitioners and central banks. Unfortunately, like the original Nelson-Siegel specification, this generalization, in its dynamic form, does not enforce arbitrage-free consistency over time. Indeed, we show that the factor loadings of the Svensson generalization cannot be obtained in a standard finance arbitrage-free affine term structure representation. Therefore, we introduce a closely related generalized Nelson-Siegel model on which the noarbitrage condition can be imposed. We estimate this new AFGNS model and demonstrate its tractability and good in-sample fit. © The Author(s). Journal compilation © Royal Economic Society 2009.

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Christensen, J. H. E., Diebold, F. X., & Rudebusch, G. D. (2009). An arbitrage-free generalized Nelson-Siegel term structure model. Econometrics Journal, 12(3). https://doi.org/10.1111/j.1368-423X.2008.00267.x

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