Ultimate Forward Rate Prediction and its Application to Bond Yield Forecasting: A Machine Learning Perspective

TL;DR

This paper develops a machine learning-based model for predicting the ultimate forward rate and bond yields, utilizing macroeconomic data and novel estimation techniques to improve accuracy in Chinese treasury bonds.

Contribution

It introduces a new methodology for estimating the UFR and integrates machine learning models with macroeconomic variables for enhanced bond yield forecasting.

Findings

Nonlinear machine learning models outperform linear models in accuracy.

Inclusion of macroeconomic variables, especially price indices, improves predictions.

The proposed UFR-based model shows superior performance across bond maturities.

Abstract

This study focuses on forecasting the ultimate forward rate (UFR) and developing a UFRbased bond yield prediction model using data from Chinese treasury bonds and macroeconomic variables spanning from December 2009 to December 2024. The de Kort-Vellekooptype methodology is applied to estimate the UFR, incorporating the optimal turning parameter determination technique proposed in this study, which helps mitigate anomalous fluctuations. In addition, both linear and nonlinear machine learning techniques are employed to forecast the UFR and ultra-long-term bond yields. The results indicate that nonlinear machine learning models outperform their linear counterparts in forecasting accuracy. Incorporating macroeconomic variables, particularly price index-related variables, significantly improves the accuracy of predictions. Finally, a novel UFR-based bond yield forecasting model is developed, demonstrating superior performance across different bond maturities.