Estimating the volatility term structure

In this paper, we proceed to estimate term structure of interest rate volatilities, finding that these estimates depend significantly on the model used to estimate the term structure (Nelson and Siegel or Vasicek and Fong) and the heteroscedasticity structure of errors (OLS or GLS weighted by duration). We conclude in our empirical analysis that there are significant differences between these volatilities in the short (less than one year) and long term (more than ten years). Finally, we can detect that three principal components explain 90% of the changes in volatility term structure. These components are related to level, slope and curvature.