Journal article

Ambiguity aversion and the term structure of interest

  • Gagliardini, Patrick Istituto di finanza (IFin), Facoltà di scienze economiche, Università della Svizzera italiana, Svizzera
  • Porchia, Paolo Swiss Institute for Banking and Finance, University of St. Gallen, Switzerland
  • Trojani, Fabio Istituto di finanza (IFin), Facoltà di scienze economiche, Università della Svizzera italiana, Svizzera
    2009
Published in:
  • The review of financial studies. - Oxford publishing. - 2009, vol. 22, no. 10, p. 4157-4188
English This paper studies the term structure implications of a simple structural model in which the representative agent displays ambiguity aversion, modeled by Multiple Priors Recursive Utility. Bond excess returns reflect a premium for ambiguity, which is observationally distinct from the risk premium of affine yield curve models. The ambiguity premium can be large even in the simplest log-utility setting and is also non zero for stochastic factors that have a zero risk premium. A calibrated low-dimensional two-factor model with ambiguity is able to reproduce the deviations from the expectations hypothesis documented in the literature, without modifying in a substantial way the nonlinear mean reversion dynamics of the short interest rate. Moreover, the model does not imply any apparent tradeoff between fitting the first and second moments of the yield curve.
Language
  • English
Classification
Economics
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https://susi.usi.ch/usi/documents/318376
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