The Volatility of Long-Term Bond Returns: Persistent Interest Shocks and Time-Varying Risk Premiums

Daniela Osterrieder; Peter Schotman

doi:10.1162/REST_a_00624

The Volatility of Long-Term Bond Returns: Persistent Interest Shocks and Time-Varying Risk Premiums

Daniela Osterrieder^*, Peter Schotman

^*Corresponding author for this work

Finance

Research output: Contribution to journal › Article › Academic › peer-review

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Abstract

We develop an almost affine term-structure model with a closed-form solution for factor loadings in which the spot rate and the risk price are fractionally integrated processes with different integration orders. This model is used to explain two stylized facts. First, predictability of longterm excess bond returns requires sufficient volatility and persistence in the risk price. Second, the large volatility of long-term bond returns requires persistence in the spot rate. Decomposing long-term bond returns, we find that the expectations component from the level factor is more volatile than returns themselves and that the risk premium correlates negatively with level-factor innovations.

Original language	English
Pages (from-to)	884-895
Number of pages	12
Journal	Review of Economics and Statistics
Volume	99
Issue number	5
DOIs	https://doi.org/10.1162/REST_a_00624
Publication status	Published - Dec 2017

Keywords

UNCERTAINTY EMPIRICAL-EVIDENCE
INTERNATIONAL PANEL DATASET
LOCAL WHITTLE ESTIMATION
STRUCTURE MODELS
INTEREST-RATES
INFLATION UNCERTAINTY
EXPECTATIONS HYPOTHESIS
FRACTIONAL-INTEGRATION
AFFINE MODELS
CROSS-SECTION

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10.1162/REST_a_00624

Full TextFinal published version, 248 KBLicence: Taverne

Replication data for: "The Volatility of Long-Term Bond Returns: Persistent Interest Rate Shocks and Time-Varying Risk Premiums"
Osterrieder, D. (Contributor) & Schotman, P. (Creator), Harvard Dataverse, 20 Jun 2016
DOI: 10.7910/dvn/s2hwcs, https://doi.org/10.7910%2Fdvn%2Fs2hwcs
Dataset/Software: Dataset

Cite this

@article{fae8e5e46bab45f889f6bf405d8d8c6d,

title = "The Volatility of Long-Term Bond Returns: Persistent Interest Shocks and Time-Varying Risk Premiums ",

abstract = "We develop an almost affine term-structure model with a closed-form solution for factor loadings in which the spot rate and the risk price are fractionally integrated processes with different integration orders. This model is used to explain two stylized facts. First, predictability of longterm excess bond returns requires sufficient volatility and persistence in the risk price. Second, the large volatility of long-term bond returns requires persistence in the spot rate. Decomposing long-term bond returns, we find that the expectations component from the level factor is more volatile than returns themselves and that the risk premium correlates negatively with level-factor innovations.",

keywords = "UNCERTAINTY EMPIRICAL-EVIDENCE, INTERNATIONAL PANEL DATASET, LOCAL WHITTLE ESTIMATION, STRUCTURE MODELS, INTEREST-RATES, INFLATION UNCERTAINTY, EXPECTATIONS HYPOTHESIS, FRACTIONAL-INTEGRATION, AFFINE MODELS, CROSS-SECTION",

author = "Daniela Osterrieder and Peter Schotman",

note = "We use monthly time series of US long-term interest rates for 1954:01-2012:02. Zero-coupon yields with maturities of five and ten years are from the replication data of Campbell and Viceira (2001, hdl.handle.net/1902.1/FZLJAXFHBW) up to 1994:11 , supplemented by the G{\"u}rkaynak, Sack and Wright (2007, www.federalreserve.gov/econresdata/researchdata/feds200628.xls) data from 1994:12 onwards. For the spot rate we use the 3-Month Treasury Bill rate from the FRED database (research.stlouisfed.org/fred2/series/DTB3) transformed to continuously compounded yields. All data and replication code is available at https://dataverse.harvard.edu/dataset.xhtml?persistentId=doi:10.7910/DVN/S2HWCS",

year = "2017",

month = dec,

doi = "10.1162/REST_a_00624",

language = "English",

volume = "99",

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publisher = "MIT Press Journals",

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AU - Schotman, Peter

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PY - 2017/12

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N2 - We develop an almost affine term-structure model with a closed-form solution for factor loadings in which the spot rate and the risk price are fractionally integrated processes with different integration orders. This model is used to explain two stylized facts. First, predictability of longterm excess bond returns requires sufficient volatility and persistence in the risk price. Second, the large volatility of long-term bond returns requires persistence in the spot rate. Decomposing long-term bond returns, we find that the expectations component from the level factor is more volatile than returns themselves and that the risk premium correlates negatively with level-factor innovations.

AB - We develop an almost affine term-structure model with a closed-form solution for factor loadings in which the spot rate and the risk price are fractionally integrated processes with different integration orders. This model is used to explain two stylized facts. First, predictability of longterm excess bond returns requires sufficient volatility and persistence in the risk price. Second, the large volatility of long-term bond returns requires persistence in the spot rate. Decomposing long-term bond returns, we find that the expectations component from the level factor is more volatile than returns themselves and that the risk premium correlates negatively with level-factor innovations.

KW - UNCERTAINTY EMPIRICAL-EVIDENCE

KW - INTERNATIONAL PANEL DATASET

KW - LOCAL WHITTLE ESTIMATION

KW - STRUCTURE MODELS

KW - INTEREST-RATES

KW - INFLATION UNCERTAINTY

KW - EXPECTATIONS HYPOTHESIS

KW - FRACTIONAL-INTEGRATION

KW - AFFINE MODELS

KW - CROSS-SECTION

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DO - 10.1162/REST_a_00624

M3 - Article

SN - 0034-6535

VL - 99

SP - 884

EP - 895

JO - Review of Economics and Statistics

JF - Review of Economics and Statistics

IS - 5

ER -

The Volatility of Long-Term Bond Returns: Persistent Interest Shocks and Time-Varying Risk Premiums

Abstract

Keywords

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Replication data for: "The Volatility of Long-Term Bond Returns: Persistent Interest Rate Shocks and Time-Varying Risk Premiums"

Cite this