We explore the practitioners methodology of choosing time-dependent parameters to fit a bond model to selected asset prices, and show that it can lead to systematic mispricing of some assets. The Black-Derman-Toy model, for example, is likely to overprice call options on long bonds when interest...

High interest rate currencies tend to appreciate. This is the uncovered interest rate parity (UIP) puzzle. It is primarily a statement about short-term interest rates and how they are related to exchange rates. Short-term interest rates are strongly affected by monetary policy. The UIP puzzle,...