How Well Do Constant Maturity Treasuries Approximate the On-the-Run Term Structure

The on-the-run term structure is generally estimated from yields on securities that sell at or near their par values. These yields can be obtained either from market data or from published estimates of par yields, known as constant maturity Treasury yields. The purpose of this research is to compare and contrast the use of constant maturity yields as an alternative to actual yields observed in the Treasury market. Based on a sample of month-end data covering the period January 1, 1990 to December 31, 1997, we find that constant maturity Treasury yields provide a significantly larger pricing error in term structure estimation than market Treasury yields both in-sample and out-of-sample. The results also suggest that the Department of Treasury can improve its estimation of constant maturity yields by using a continuous bootstrapping methodology based on an assumed functional form (e.g., Nelson and Siegel (1987))