Date of This Version
1-21-2026
Abstract
The yield curve is widely regarded as a powerful descriptor of the economy and market expectations. A common approach to its statistical representation relies on a small number of factors summarizing the curve, which can then be used to forecast real economic activity.We argue that optimal factor extraction is crucial for retrieving information when considering an approximate factor model. By introducing a rotation of the model including cointegration, we reduce cross-sectional dependence in the idiosyncratic components.This leads to improved forecasts of key macroeconomic variables during periods of economic and financial instability, both in the US and the euro area.
Recommended Citation
Casoli, Chiara and Lucchetti, Riccardo (Jack), "A rotated Dynamic Factor Model for the yield curve: squeezing out information when it matters" (January 21, 2026). Fondazione Eni Enrico Mattei Working Papers. Paper 1496.
https://services.bepress.com/feem/paper1496