TITLE:
Inferring Volatility from the Yield Curve
AUTHORS:
Vincent Brousseau, Alain Durré
KEYWORDS:
Yield Curve, Volatility, Consol Volatility, Affine Model
JOURNAL NAME:
Journal of Mathematical Finance,
Vol.5 No.3,
August
28,
2015
ABSTRACT: In this paper, we assess how to recover the volatility of interest rates in the euro area money market, on the sole basis of the zero-coupon yield curve. Our primary result is that there exists an empirical regularity (linking rates and volatility) that takes a relatively simple mathematical form. We also show that the existence of such regularity cannot be explained by a reasoning based on the hypothesis of absence of opportunities of arbitrage since a continuous-time arbitrage-free model may produce instances of curves that are consistent with a continuum of level of volatilities. We exhibit an example for this.