#08-29
An Arbitrage-Free Generalized Nelson-Siegel Term Structure Model
Jens H.E. Christensen, Francis X. Diebold and Glenn D. Rudebusch
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 speci-
fication, 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 no-arbitrage condition can be imposed. We estimate this new arbitrage-free generalized Nelson-Siegel model
and demonstrate its tractability and good in-sample fit.
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