Models of forward interest rates often use high-dimensional Brownian motions to capture imperfect correlations between near term and long term rates. Several statistical analyses suggest the practicality of using a simpler model. Principal component analyses reveal a pattern of correlations...

Most affine models of the term structure with stochastic volatility (SV) predict that the variance of the short rate is simultaneously a linear combination of yields and the quadratic variation of the spot rate. However, we find empirically that the A1(3) SV model generates a time series for the...