Change Points in Affine Term-Structure Models: Pricing, Estimation and Forecasting∗

In this paper we theoretically and empirically examine structural changes in a dynamic term-structure model of zero-coupon bond yields. To do this, we de-velop a new arbitrage-free one latent and two macro-economics factor affine model to price default-free bonds when all model parameters are subject to change at unknown time points. The bonds in our set-up can be priced straightforwardly once the change point model is formulated in the manner of Chib (1998) as a specific unidirectional Markov process. We consider five versions of our general model- with 0, 1, 2, 3 and 4 change points- to a collection of 16 yields measured quarterly over the period 1972:I to 2007:IV. Our empirical approach to inference is fully Bayesian with priors set up to reflect the assumption of a positive term-premium. The use of Bayesian techniques is particularly relevant because the models are high-dimensional and non-linear, and because it is more straightfor-ward to compare our different change point models from the Bayesian perspective. Our estimation results indicate that the model with 3 change points is most sup