Forecasting the term structure of government bond yields

Despite powerful advances in yield curve modeling in the last 20 years, comparatively little attention has been paid to the key practical problem of forecasting the yield curve. In this paper we do so. We use neither the no-arbitrage approach nor the equilibrium approach. Instead, we use variations on the Nelson–Siegel exponential components framework to model the entire yield curve, period-by-period, as a three-dimensional parameter evolving dynamically. We show that the three time-varying parameters may be interpreted as factors corresponding to level, slope and curvature, and that they may be estimated with high efficiency. We propose and estimate autoregressive models for the factors, and we show that our models are consistent with a variety of stylized facts regarding the yield curve. We use our models to produce term-structure forecasts at both short and long horizons, with encouraging results. In particular, our forecasts appear much more accurate at long horizons than various standard benchmark forecasts.     

The determinants of corporate bond yields

Previous studies have found that common factors explain a high proportion of corporate bond yields. In this paper, we test whether there is a systematic risk premium beyond that implied by a risk-neutral term structure model. We propose a reduced-form term structure model that incorporates both default and tax effects. After controlling the effects of personal taxes and default risk, empirical tests show that at least two of the Fama–French factors are important for corporate bond yields. Our results suggest that term structure models should incorporate aggregate common risk factors in order to better explain the dynamics of corporate bond yields.     

The issuer effect on default risk insured municipal bond yields

In this study, an interesting aspect of the secondary market's pricing of the riskiness of insured municipal bonds is examined. Do secondary market investors still consider the underlying intrinsic credit quality of the issuer in pricing insured bonds? Is the pricing of this “issuer effect” treated equally for both revenue and general obligation bonds? We find that, while the market does not differentiate between equally insured revenue and general obligation bonds, the intrinsic credit quality of the issuer is reflected in the bond issue's quality spread. The results suggest that investors are concerned with the default risk protection of insured municipal bonds regardless of whether they are revenue or general obligation bonds. The market does not perceive insurers to be perfect substitutes for issuers in a risk transfer. Further, the results suggest there is justification for obtaining an agency rating according to issuer credit quality even for insured bonds.     

The impact of fiscal positions on government bond yields in CEE countries

This paper investigates the influence of government debt and primary balance on long-term government bond yields in 10 Central and Eastern European (CEE) countries in the period 2000–2013. The results indicate that a one percentage point increase in the stock of government debt is associated with an increase in government bond yields of 2.7–4 basis points, while a one percentage point increase in the primary deficit to GDP ratio is associated with an increase in government bond yields of 12.9–24.3 basis points. We also find evidence of non-linearities in the debt-interest rate relationship, whereby the threshold after which the impact of debt turns from negative to positive is significantly lower than in advanced economies.     

Government bond yields will remain stuck to the floor

• ▀ The fallout from the pandemic will cement the trend of safe haven bond yields remaining low over the next five years. Any rises will be gradual and limited. We project bond yields will struggle to get much above end-2019 levels by 2024.
• ▀ Despite record issuance by US, UK, German, and Japanese governments, the rise in private sector savings and demand from central banks will keep the flows of demand and supply for safe assets in broad balance. Overall, the world will still suffer a chronic shortage of safe assets, keeping yields depressed.
• ▀ Weak prospects for nominal GDP growth, demographics, and rising inequality in the aftermath of the pandemic all point to low yields. This would also be consistent with historical experience following pandemics.

     

Forecasting bond yields in the Brazilian fixed income market

This paper studies the predictive ability of a variety of models in forecasting the yield curve for the Brazilian fixed income market. We compare affine term structure models with a variation of the Nelson–Siegel exponential framework developed by Diebold and Li [Diebold, F., & Li, C. (2006). Forecasting the Term Structure of Government Yields. Journal of Econometrics, 130, 337–364]. Empirical results suggest that forecasts made with the latter methodology are superior, and appear to be more accurate at long horizons than other different benchmark forecasts. These results are important for policy-makers, as well as for portfolio and risk managers. Further research could study the predictive ability of such models in other emerging markets.     

Long-run and short-run determinants of sovereign bond yields in advanced economies

We analyze determinants of sovereign bond yields in 22 advanced economies over the 1980–2010 period using panel cointegration techniques. The application of the cointegration methodology allows distinguishing between long-run (debt-to-GDP ratio, potential growth) and short-run (inflation, short-term interest rates, etc.) determinants of sovereign borrowing costs. We find that in the long run, government bond yields increase by about 2 basis points in response to a 1 percentage point increase in government debt-to-GDP ratio and by about 45 basis points in response to a 1 percentage point increase in the potential growth rate. In the short run, sovereign bond yields deviate from the level determined by the long-run fundamentals, but about half of the deviation adjusts in one year. When considering the impact of the global financial crisis on sovereign borrowing costs in euro area countries, the estimations suggest that spreads against Germany in some European periphery countries exceeded the level determined by fundamentals in the aftermath of the crisis, while some North European countries have benefited from “safe-haven” flows.     

General Bayesian time-varying parameter vector autoregressions for modeling government bond yields

US yield curve dynamics are subject to time-variation, but there is ambiguity about its precise form. This paper develops a vector autoregressive (VAR) model with time-varying parameters and stochastic volatility, which treats the nature of parameter dynamics as unknown. Coefficients can evolve according to a random walk, a Markov switching process, observed predictors, or depend on a mixture of these. To decide which form is supported by the data and to carry out model selection, we adopt Bayesian shrinkage priors. Our framework is applied to model the US yield curve. We show that the model forecasts well, and focus on selected in-sample features to analyze determinants of structural breaks in US yield curve dynamics.     

Relationships between municipal bond rates,underwriter margins and market yields

Expressions are given relating municipal bond coupon rates to underwrite profit margins and the market yield. These expressions are applied to the examination of net interest rates, net present value and the cost of capital of serial bond issues. The conditions which must be satisfied so that a decrease in net interest rate corresponds to an increase in net present value (hence a decrease in the cost of capital to the issuer) are presented.     

Spillover effects on government bond yields in euro zone. Does full financial integration exist in European government bond markets?

This paper examines the time varying nature of European government bond market integration by employing multivariate GARCH models. We state that unlike other bond markets, in euro markets the default(credit) risk factor and other macroeconomic and fiscal indicators are not able to explain the sovereign bond yields after the beginning of monetary union. This fact might be counted as a signal for perfect financial integration. However, we also find that the global shocks affect Germany and the rest of euro bond markets in various levels, creating particular discrepancies in asset prices even we take into account the market specific factors. Different level responses of each euro market to the global shocks reveal that euro bond markets are not fully integrated with each other unlike the recent literature claimed. Besides, we explore that the global factors are effective for the volatility of yield differentials among euro government bonds.     

Causality-in-variance and causality-in-mean between the Greek sovereign bond yields and Southern European banking sector equity returns

This paper adopts the robust cross-correlation function methodology developed by Hong (J Econom 103:183–224, 2001) in order to test for volatility and mean spillovers between Greek long-term government bond yields and the banking sector stock returns of four Southern European countries, namely Greece, Portugal, Italy, and Spain. Its primary focus is on investigating the potential impacts of the recent European sovereign debt crisis. While most previous studies have focused on within-country causalities, we rather assess cross-country transmission effects. The presented results provide evidence of bidirectional volatility spillovers between Greek long-term interest rates and the banking sector equities of Portugal, Italy, and Spain that emerged during the European sovereign debt crisis. We also find significant unidirectional causality-in-mean from bank stock returns in Greece to Greek long-term bond yields during the crisis period as well as significant causality at the mean level from the bank equity returns in Portugal, Italy, and Spain to Greek bond yields.     

Term structure models and the zero bound: An empirical investigation of Japanese yields

When Japanese short-term bond yields were near their zero bound, yields on long-term bonds showed substantial fluctuation, and there was a strong positive relationship between the level of interest rates and yield volatilities/risk premiums. We explore whether several families of dynamic term structure models that enforce a zero lower bound on short rates imply conditional distributions of Japanese bond yields consistent with these patterns. Multi-factor “shadow-rate” and quadratic-Gaussian models, evaluated at their maximum likelihood estimates, capture many features of the data. Furthermore, model-implied risk premiums track realized excess returns during extended periods of near-zero short rates. In contrast, the conditional distributions implied by non-negative affine models do not match their sample counterparts, and standard Gaussian affine models generate implausibly large negative risk premiums.     

Convertible bond issuance volume,capital structure,and firm value

We investigate whether convertible bond (CB) issuance volume that causes capital structure change would affect firm value. We focus on either the hand-collected data due to multiple CB issues or diverse CB issuance volume (CB-IV) measures, including CB-IV over debt, equity, and assets. We reveal that the firms with higher CB-IV would enhance firm value, somewhat different from previous findings that CB might not be a cheap financing instrument for raising funds. We infer that because increased CB-IV might not be easily permitted by Taiwan authorities, enterprises might endeavor to exploit profits by using the funds raised by CBs. We argue that, to our understanding, our explored issues are essential for enterprises because they link CB-IV and firm value through the capital structure channel. Given that these issues have rarely been a comprehensive focus, this study may contribute to the existing literature.     

Bond risk, bond return volatility, and the term structure of interest rates

This paper explores the time variation in the bond risk, as measured by the covariation of bond returns with stock returns and consumption growth, and in the volatility of bond returns. A robust stylized fact in empirical finance is that the spread between the yields on long- and short-term bonds forecasts future excess returns on bonds at varying horizons positively; in addition, the short-term nominal interest rate forecasts both the stock return volatility and the exchange rate volatility positively. This paper presents evidence that movements in both the short-term nominal interest rate and the yield spread are positively related to changes in the subsequent realized bond risk and bond return volatility. The yield spread appears to proxy for business conditions, while the short rate appears to proxy for inflation and economic uncertainty. A decomposition of bond betas into a real cash flow risk component and a discount rate risk component shows that yield spreads have offsetting effects in each component. A widening yield spread is correlated with a reduced cash-flow (or inflationary) risk for bonds, but it is also correlated with a larger discount rate risk for bonds. The short rate only forecasts the discount rate component of the bond beta.     

The impact of inflationary news on money market yields and volatilities

This study investigates the impact of surprises in hourly wages, non-farm payroll, unemployment rate, and producer price index on the yields and volatilities of money market securities. The methodology is conducted in a framework that preserves the strong substitutability among the instruments. We find first the short-term interest rate nexus is inherently a steady state long-run phenomenon. Second, yield variability is fundamentally linked to the release of macroeconomic news that conveys important information on inflation. Third, results from the equality of variance tests suggest that volatilities on announcement days are significantly higher than non-announcement day volatilities across all securities.     

The causal analysis of contingency tables: A return to first principles

Given the undoubtedly major advances in the analysis of contingency tables which have been achieved over the past ten years or so (see for example, Fienberg, 1980; Upton, 1978; Everitt, 1977; Haberman, 1978, 1979), it might seem rather unnecessary to want to return to first princples again. However, the need arises precisely because of these advances; for progress in the specifically causal analysis of contingency tables has not matched the other advances at all. Whilst Fienberg devoted a chapter to causal analysis, he made it clear that he views “the assignment of numerical values [to the arrows in a path diagram] as problematic, and [he] would limit [the analysis] to an indication of sign for causal relationships, in a fashion similar to that described by Blalock (1964)” (Fienberg, 1980, pp. 91–92). Considering how far quantitative-variable causal analysis has developed since Blalock (1964), it becomes clear that the causal analysis of qualitative data is still at a rather primitive stage. Indeed, Haberman (1978, 1979), in his two-volume survey of the analysis of qualitative data, does not mention it at all. The problem, I believe, is that log-linear and logit methodology are not particularly suited to the logic of causality in contingency tables. In order to derive a suitable method, it is necessary to uncover the logic underlying causality when applied to qualitative variables. A few others have taken seriously the idea that a direct analysis of the form of a contingency table can lead to fruitful results (see, especially, for example, Boudon, 1967), but their work has been overshadowed by the statistically more profound advances made in log-linear methods. This article is an attempt to provide a statistically rigorous analysis based on the direct interpretation of causality embodied in a contingency table.     

Estimating causal effects of credit decisions

In principle, making credit decisions under uncertainty can be approached by estimating the potential future outcomes that will result from the various decision alternatives. In practice, estimation difficulties may arise as a result of selection bias and limited historic testing. We review some theoretical results and practical estimation tools from observation study design and causal modeling, and evaluate their relevance to credit decision problems. Building on these results and tools, we propose a novel approach for estimating potential outcomes for credit decisions with multiple alternatives based on matching on multiple propensity scores. We demonstrate the approach and discuss results for risk-based pricing and credit line increase problems. Among the strengths of our approach are its transparency about data support for the estimates and its ability to incorporate prior knowledge in the extrapolative inference of treatment-response curves.