Comparison of Field Theory Models of Interest Rates with Market Data

TL;DR

This paper evaluates different field theory models of interest rates against market data, identifying a psychological factor-based model as the best fit and deriving the volatility function directly from market observations.

Contribution

It introduces a calibration and testing framework for various interest rate field theory models using market data, highlighting the effectiveness of a psychological factor-based model.

Findings

Psychological factor model fits market data best

Volatility function determined directly from market data

Model-independent volatility estimation achieved

Abstract

We calibrate and test various variants of field theory models of the interest rate with data from eurodollars futures. A model based on a simple psychological factor are seen to provide the best fit to the market. We make a model independent determination of the volatility function of the forward rates from market data.