Vield curve construction using government bonds in the Czech republic

Abstract

The paper deals with yield curve construction methods using coupon bonds in Czech bond market. Generally, there are more possibilities how to approach this problem: bootstraping, splines, parametric functions. Due to the lack of tradable public bonds and due to the fact that existing bonds do not pay coupons at the same date of the year, traditional bootstraping method could not be applied under Czech market conditions. It seemed appropriate to use parametrical solutions to the yield curve issue and minimise the sum of squares of differences between market and theoretical prices. There were presented three function types which arrived to similar results in the paper. The authors also used Svensson parametric function to demonstrate the possible use of parametric yield curve construction. It was shown that, after duration adjustment, it can indicate shift in market expectations regarding future short term interest rate moves, and thus regarding future monetary policy, pretty well.term structure of interest rates, Czech Republic, yield curve, government bonds, estimation of parametric functions, market expectations