Title: Generation of scenarios for the interest rates under the arbitrage-free dynamic Nelson-Siegel model

Authors: Stéphane Dang-Nguyen; Yves Rakotondratsimba

Addresses: Alef-Servizi Spa, Viale Regina Margherita, 169, 00199 Roma Italy ' ECE Paris Graduate School of Engineering, 37 quai de Grenelle CS71520, 75 725 Paris 15, France

Abstract: The affine Arbitrage-Free Dynamic Nelson-Siegel model (AFDNS) introduced by Christensen, Diebold and Rudebusch in 2007 provides an interesting alternative model for pricing and risk management, since it maintains the theoretical arbitrage-free restrictions of affine models and provides remarkably empirical properties. Our purpose in this paper is to provide the analysis and formulas required in the generation of scenarios for the interest rates at future time-horizons, under this model. Such simulations are required in various contexts, as in the pricing of interest rates derivatives and in the valuation of insurance firms' risk capital.

Keywords: interest rates; interest rate term structure; arbitrage-free dynamic Nelson-Siegel model; Monte-Carlo pricing; risk management; affine models; scenario generation; scenarios; simulation; interest rate derivatives; insurance firms; risk capital.

DOI: 10.1504/IJFERM.2016.083010

International Journal of Financial Engineering and Risk Management, 2016 Vol.2 No.3, pp.220 - 254

Received: 30 Jul 2016
Accepted: 13 Feb 2017

Published online: 17 Mar 2017 *

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