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Digital Library

of the European Council for Modelling and Simulation

 

Title:

Cost Simulation Of An Inflation-Linked And A Floater Bond With Backtesting

Authors:

Kata Varadi, Agnes Vidovics-Dancs

Published in:

 

(2013).ECMS 2013 Proceedings edited by: W. Rekdalsbakken, R. T. Bye, H. Zhang  European Council for Modeling and Simulation. doi:10.7148/2013

 

ISBN: 978-0-9564944-6-7

 

27th European Conference on Modelling and Simulation,

Aalesund, Norway, May 27th – 30th, 2013

 

Citation format:

Kata Varadi, Agnes Vidovics-Dancs (2013). Cost Simulation Of An Inflation-Linked And A Floater Bond With Backtesting, ECMS 2013 Proceedings edited by: W. Rekdalsbakken, R. T. Bye, H. Zhang, European Council for Modeling and Simulation. doi:10.7148/2013-0275

 

DOI:

http://dx.doi.org/10.7148/2013-0275

Abstract:

In this paper we focus on simulating and backtesting the costs of two special government securities, from the point of view of the issuer. Our research has two main goals. The first one is to assess the costliness of an inflation-linked bond in comparison with a floater one. The second one is to backtest the simulation results on real market data. We carry out the cost simulations with Monte Carlo simulation. The basis of the calculations is the Cox-Ingersoll-Ross interest rate model for the floater bond; and a first order autoregressive model for the inflation-linked bond. Our findings are: (i) the inflation-linked bond appears to be more expensive than the floater one and this relationship holds true for exante (simulated) and ex-post (actually realised) costs as well; and (ii) the simulations predict the total present value of the costs adequately for both instruments, but the individual cash flows of the floater bond are significantly under- or overestimated in the different years. This shortcoming is in line with our expectations, since the model is calibrated on a tranquil period but applied on a very volatile one.

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