Understanding the Vasicek Model

Easy Term Structure Dynamics Interest Rate Models

John is studying interest rate models as part of his CFA Level 2 preparation. He comes across various approaches to modeling the term structure of interest rates. One commonly discussed model is the Vasicek model, known for its mean-reverting properties.

John wants to assess how the distribution of interest rates is affected by this model, particularly in terms of how it predicts the behavior of short-term rates. He learns that the model can be represented by a stochastic differential equation.

Which of the following statements about the Vasicek model and its implications for the term structure of interest rates is correct?

The Vasicek model assumes interest rates follow a random walk without drift.

The Vasicek model incorporates mean reversion, indicating that interest rates tend to move back towards a long-term average.

The Vasicek model implies that long-term interest rates are completely independent of short-term interest rates.

Hint

Submitted7.5K

Correct4.9K

% Correct66%