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A simple approach to estimate long-term interest rates

Published online by Cambridge University Press:  20 October 2022

Joost Driessen ,
Theo E. Nijman  and
Zorka Simon Open the ORCID record for Zorka Simon [Opens in a new window]
Joost Driessen*
Affiliation:
Tilburg University and Netspar, Tilburg, Netherlands
Theo E. Nijman
Affiliation:
Tilburg University and Netspar, Tilburg, Netherlands
Zorka Simon
Affiliation:
Leibniz Institute for Financial Research SAFE, Frankfurt, Germany
*
*Corresponding author. Email: J.J.A.G.Driessen@tilburguniversity.edu
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Abstract

We propose an easy to implement yield curve extrapolation method to determine long-term interest rates suitable for regulatory valuation. We empirically evaluate this approach for the German nominal bond market, by estimating the model on bonds with maturities up to 20 years and assessing the out-of-sample performance for bonds with maturities beyond 20 years. Even though observed long-term yields are somewhat lower than the predicted yields, the method performs quite well empirically given its simplicity. We perform a case study on pension fund liability valuation and show that our proposed method would have a substantial impact on liability values.

Keywords

Credit riskflight-to-safetyliquiditysegmentationsovereign bondsterm structure of interest rates

JEL classification

G01: Financial Crises G12: Asset Pricing • Trading Volume • Bond Interest Rates G15: International Financial Markets G18: Government Policy and Regulation
Type
Article
Information
Journal of Pension Economics & Finance , First View , pp. 1 - 25
Copyright
Copyright © The Author(s), 2022. Published by Cambridge University Press

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