Ambiguity Aversion, Bond Pricing and the Non-Robustness of some affine Term Structures Ambiguity Aversion and the Term Structure of Interest Rates

We develop a continuous time general equilibrium yield curve model under ambiguity aversion. A moderate level of ‘aggregate ambiguity’ affects significantly the term structure and can drive the prices of common interest rate derivatives toward the patterns observed in fixed income markets. Equilibrium term premia and interest rates have rich functional forms, with random factors unpriced under the ‘standard’ paradigm that pay a premium for ambiguity. We provide explicit descriptions of the impact of ambiguity aversion on popular term structure factor models, both for cases where ambiguity is time varying and for cases where it is not.