Hi I understand the Vasicek and the CIR model allows the short rate curve to slope up, down and even humped. Why is it humped?
One reason why the yield curve may be humped is down to supply and demand. Think of a straightforward ZCB price formula: P = 100/(1+i)^n. If the price goes up, the yield i goes down. If the price goes down, the yield i goes up. If demand for short and long term bonds is high relative to supply then the price will be driven up and the yield driven down. If demand for medium term bonds is low relative to supply then the price will be driven down and the yield driven up. So you get lower yields for short and long term bonds and higher yields for medium term bonds leading to a humped curve. This pattern of demand can happen in practise. Eg, banks often want short term bonds and life insurers and pension funds want long term bonds. But there can be a bit of a gap in the middle.
