Do Bonds Span The Fixed Income Markets Theory And Evidence For Unspanned Stochastic Volatility
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Do Bonds Span The Fixed Income Markets Theory And Evidence For Unspanned Stochastic Volatility
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Author : Pierre Collin-Dufresne
language : en
Publisher:
Release Date : 2011
Do Bonds Span The Fixed Income Markets Theory And Evidence For Unspanned Stochastic Volatility written by Pierre Collin-Dufresne and has been published by this book supported file pdf, txt, epub, kindle and other format this book has been release on 2011 with categories.
Most models of the term structure are restrictive in that they assume the bond market forms a complete market. That is, they assume all sources of risk affecting fixed income derivatives can be completely hedged by a portfolio consisting solely of bonds. Below, we present empirical evidence which suggests this prediction fails in practice. In particular, we find that changes in swap rates have very limited explanatory power for returns on at-the-money straddles - portfolios mainly exposed to volatility risk. We term this empirical feature 'unspanned' stochastic volatility (USV). We demonstrate that bivariate Markov models (e.g., Fong and Vasicek (1991), Longstaff and Schwartz (1992)) cannot exhibit USV. Then, we determine necessary (and apparently sufficient) parameter restrictions for trivariate Markov affine systems to exhibit USV. Finally, USV is shown to occur naturally within the Heath-Jarrow-Morton framework.
Spanned Stochastic Volatility In Bond Markets
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Author : Don H. Kim
language : en
Publisher:
Release Date : 2007
Spanned Stochastic Volatility In Bond Markets written by Don H. Kim and has been published by this book supported file pdf, txt, epub, kindle and other format this book has been release on 2007 with 1996-2008 categories.
This paper reexamines the issue of unspanned stochastic volatility (USV) in bond markets and the puzzle of poor relative pricing between bonds and bond options. I make a distinction between the "weak USV" and the "strong USV" scenarios, and analyze the evidence for each of them. I argue that the poor bonds/options relative pricing in the extant literature is not necessarily evidence for the strong USV scenario, and show that a maximally flexible 2-factor quadratic-Gaussian model (a non-USV model) estimated without bond options data can capture much of the movement in bond option prices. Dropping the positive-definiteness requirement for nominal interest rates and adopting "regularized" estimations turn out to be important for obtaining sensible results.
Handbook Of Fixed Income Securities
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Author : Pietro Veronesi
language : en
Publisher: John Wiley & Sons
Release Date : 2016-04-04
Handbook Of Fixed Income Securities written by Pietro Veronesi and has been published by John Wiley & Sons this book supported file pdf, txt, epub, kindle and other format this book has been release on 2016-04-04 with Business & Economics categories.
A comprehensive guide to the current theories and methodologies intrinsic to fixed-income securities Written by well-known experts from a cross section of academia and finance, Handbook of Fixed-Income Securities features a compilation of the most up-to-date fixed-income securities techniques and methods. The book presents crucial topics of fixed income in an accessible and logical format. Emphasizing empirical research and real-life applications, the book explores a wide range of topics from the risk and return of fixed-income investments, to the impact of monetary policy on interest rates, to the post-crisis new regulatory landscape. Well organized to cover critical topics in fixed income, Handbook of Fixed-Income Securities is divided into eight main sections that feature: • An introduction to fixed-income markets such as Treasury bonds, inflation-protected securities, money markets, mortgage-backed securities, and the basic analytics that characterize them • Monetary policy and fixed-income markets, which highlight the recent empirical evidence on the central banks’ influence on interest rates, including the recent quantitative easing experiments • Interest rate risk measurement and management with a special focus on the most recent techniques and methodologies for asset-liability management under regulatory constraints • The predictability of bond returns with a critical discussion of the empirical evidence on time-varying bond risk premia, both in the United States and abroad, and their sources, such as liquidity and volatility • Advanced topics, with a focus on the most recent research on term structure models and econometrics, the dynamics of bond illiquidity, and the puzzling dynamics of stocks and bonds • Derivatives markets, including a detailed discussion of the new regulatory landscape after the financial crisis and an introduction to no-arbitrage derivatives pricing • Further topics on derivatives pricing that cover modern valuation techniques, such as Monte Carlo simulations, volatility surfaces, and no-arbitrage pricing with regulatory constraints • Corporate and sovereign bonds with a detailed discussion of the tools required to analyze default risk, the relevant empirical evidence, and a special focus on the recent sovereign crises A complete reference for practitioners in the fields of finance, business, applied statistics, econometrics, and engineering, Handbook of Fixed-Income Securities is also a useful supplementary textbook for graduate and MBA-level courses on fixed-income securities, risk management, volatility, bonds, derivatives, and financial markets. Pietro Veronesi, PhD, is Roman Family Professor of Finance at the University of Chicago Booth School of Business, where he teaches Masters and PhD-level courses in fixed income, risk management, and asset pricing. Published in leading academic journals and honored by numerous awards, his research focuses on stock and bond valuation, return predictability, bubbles and crashes, and the relation between asset prices and government policies.
Do Bonds Span Volatility Risks In The U S Treasury Market
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Author : Torben Gustav Andersen
language : en
Publisher:
Release Date : 2007
Do Bonds Span Volatility Risks In The U S Treasury Market written by Torben Gustav Andersen and has been published by this book supported file pdf, txt, epub, kindle and other format this book has been release on 2007 with Economics categories.
We investigate whether bonds span the volatility risk in the U.S. Treasury market, as predicted by most 'affine' term structure models. To this end, we construct powerful and model-free empirical measures of the quadratic yield variation for a cross-section of fixed-maturity zero-coupon bonds ("realized yield volatility") through the use of high-frequency data. We find that the yield curve fails to span yield volatility, as the systematic volatility factors are largely unrelated to the cross-section of yields. We conclude that a broad class of affine diffusive, Gaussian-quadratic and affine jump-diffusive models is incapable of accommodating the observed yield volatility dynamics. An important implication is that the bond markets per se are incomplete and yield volatility risk cannot be hedged by taking positions solely in the Treasury bond market. We also advocate using the empirical realized yield volatility measures more broadly as a basis for specification testing and (parametric) model selection within the term structure literature.
Fixed Income Relative Value Analysis
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Author : Doug Huggins
language : en
Publisher: John Wiley & Sons
Release Date : 2013-05-20
Fixed Income Relative Value Analysis written by Doug Huggins and has been published by John Wiley & Sons this book supported file pdf, txt, epub, kindle and other format this book has been release on 2013-05-20 with Business & Economics categories.
As western governments issue increasing amounts of debt, the fixed income markets have never been more important. Yet the methods for analyzing these markets have failed to keep pace with recent developments, including the deterioration in the credit quality of many sovereign issuers. In Fixed Income Relative Value Analysis, Doug Huggins and Christian Schaller address this gap with a set of analytic tools for assessing value in the markets for government bonds, interest rate swaps, and related basis swaps, as well as associated futures and options. Taking a practitioner’s point of view, the book presents the theory behind market analysis in connection with tools for finding and expressing trade ideas. The extensive use of actual market examples illustrates the ways these analytic tools can be applied in practice. The book covers: Statistical models for quantitative market analysis, in particular mean reversion models and principal component analysis. An in-depth approach to understanding swap spreads in theory and in practice. A comprehensive discussion of the various basis swaps and their combinations. The incorporation of credit default swaps in yield curve analysis. A classification of option trades, with appropriate analysis tools for each category. Fitted curve techniques for identifying relative value among different bonds. A multi-factor delivery option model for bond future contracts. Fixed Income Relative Value Analysis provides an insightful presentation of the relevant statistical and financial theories, a detailed set of statistical and financial tools derived from these theories, and a multitude of actual trades resulting from the application of these tools to the fixed income markets. As such, it’s an indispensable guide for relative value analysts, relative value traders, and portfolio managers for whom security selection and hedging are part of the investment process.
The Price Of Fixed Income Market Volatility
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Author : Antonio Mele
language : en
Publisher: Springer
Release Date : 2016-01-18
The Price Of Fixed Income Market Volatility written by Antonio Mele and has been published by Springer this book supported file pdf, txt, epub, kindle and other format this book has been release on 2016-01-18 with Mathematics categories.
Fixed income volatility and equity volatility evolve heterogeneously over time, co-moving disproportionately during periods of global imbalances and each reacting to events of different nature. While the methodology for options-based "model-free" pricing of equity volatility has been known for some time, little is known about analogous methodologies for pricing various fixed income volatilities. This book fills this gap and provides a unified evaluation framework of fixed income volatility while dealing with disparate markets such as interest-rate swaps, government bonds, time-deposits and credit. It develops model-free, forward looking indexes of fixed-income volatility that match different quoting conventions across various markets, and uncovers subtle yet important pitfalls arising from naïve superimpositions of the standard equity volatility methodology when pricing various fixed income volatilities.
Do Bonds Span Volatility Risk In The U S Treasury Market A Specification Test For Affine Term Structure Models
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Author : Torben G. Andersen
language : en
Publisher:
Release Date : 2010
Do Bonds Span Volatility Risk In The U S Treasury Market A Specification Test For Affine Term Structure Models written by Torben G. Andersen and has been published by this book supported file pdf, txt, epub, kindle and other format this book has been release on 2010 with categories.
We investigate whether bonds span the volatility risk in the U.S. Treasury market, as predicted by most 'affine' term structure models. To this end, we construct powerful and model-free empirical measures of the quadratic yield variation for a cross-section of fixed-maturity zero-coupon bonds (quot;realized yield volatilityquot;) through the use of high-frequency data. We find that the yield curve fails to span yield volatility, as the systematic volatility factors are largely unrelated to the cross-section of yields. We conclude that a broad class of affine diffusive, Gaussian-quadratic and affine jump-diffusive models is incapable of accommodating the observed yield volatility dynamics. An important implication is that the bond markets per se are incomplete and yield volatility risk cannot be hedged by taking positions solely in the Treasury bond market. We also advocate using the empirical realized yield volatility measures more broadly as a basis for specification testing and (parametric) model selection within the term structure literature.
Risk Ambiguity And Anomalies In The Fixed Income Market
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Author : Zhan Shi
language : en
Publisher:
Release Date : 2014
Risk Ambiguity And Anomalies In The Fixed Income Market written by Zhan Shi and has been published by this book supported file pdf, txt, epub, kindle and other format this book has been release on 2014 with categories.
This dissertation contains five essays on the implications of risks and ambiguity for asset pricing puzzles, especially in the fixed income market. The first essay studies the effects of time-varying Knightian uncertainty (ambiguity) on equilibrium asset prices; the second and third essays focus on the term premia in the nominal and real Treasury bond markets; The last two examine the performance of structural models of credit risk in explaining the levels and changes of corporate yield spreads.In the first essay, I consider a continuous-time Lucas exchange economy in which an ambiguity-averse agent applies a discount rate that is adjusted not only for the current magnitude of ambiguity but also for the risk associated with its future fluctuations. As such, both the ambiguity level and volatility help raise asset premia and accommodate richer dynamics of asset prices. With a novel measure for the ambiguity level, I show that the estimated model is able to explain a wide range of asset markets anomalies, including the equity premium puzzle, the risk-free rate puzzle, the credit spread puzzle, and the expectations puzzle. In particular, this paper establishes both theoretical and empirical linkages of ambiguity with the unspanned predictability in the Treasury market. Furthermore, the proposed ambiguity measure is found to exhibit significant predictive power for excess returns on equities and bonds as well as for corporate yield spreads, a finding that justifies uncertainty channels highlighted in the model.The remaining four essays are based on work that is coauthored with Professor Jingzhi Huang. In the second chapter, we provide new and robust evidence on the power of macro variables for forecasting bond risk premia by using a recently developed model selection method--the supervised adaptive group "leastabsolute shrinkage and selection operator" (lasso) approach. We identify a single macro factor that can not only subsume the macro factors documented in the existing literature but also can substantially raise their forecasting power for future bond excess returns. Specifically, we find that the new macro factor, a linear combination of four group factors (including employment, housing, and price indices), can explain the variation in excess returns on bonds with maturities ranging from 2 to 5 years up to 43%. The new factor is countercyclical and furthermore picks up unspanned predictability in bond excess returns. Namely, the new macro factor contains substantial information on expected excess returns (as well as expected future short rates) but has negligible impact on the cross section of bond yields.In the third essay, we document a number of new empirical findings about the dynamic behavior and economic determinants of risk premia on real bonds. Specifically, we find that the real bond risk premium changes over time and fluctuates between positive and negative values. We also find that the real term structure itself contains a component that drives risk premia but is undetectable from cross section of bond yields. In addition, we present evidence on the link between real bond premia and macroeconomic variables. More specifically, we find that macro factors associated with real estate and consumer income and expenditure can capture a large portion of forecastable variation in excess returns on real bonds. These empirical findings have important implications for both affine term structure models and consumption-based asset pricing models of real bonds.The fourth essay provides new insights into the equity-credit market integration puzzle. Empirical evidence has documented that while variables suggested by structural credit risk models can explain only a small portion of corporate bond spread changes (Collin-Dufresne, Goldstein, and Martin 2001), these models provide quite accurate predictions of hedge ratios for corporate bond returns (Schaefer and Strebulaev 2008). These two stylized facts together are often considered to have conflicting implications for the level of integration between equity and credit markets -- given the fundamental relationship between corporate bond spread changes and returns. we provide a rational explanation of this anomaly by demonstrating that the two aforementioned seemingly conflicting findings can be reconciled with each other within the standard structural modeling framework. In particular, we show empirically that sensitivities of spread changes to leverage ratio or equity predicted by the Merton (1974) model are not rejected in time-series tests -- namely, the Merton hedge ratios for spread changes are too consistent with data. That is, the equity-credit market integration puzzle can be explained from a traditional hedging perspective.In the last essay, we empirically examine the hedging performance of structural models using data on corporate bond transaction prices over the period July 2002--December 2012 from the Trade Reporting and Compliance Engine (TRACE) database. While there is a large literature on the pricing performance of structural credit risk models, there is little empirical evidence on the empirical performance of these models on hedging corporate bonds. We find that the Merton (1974) model is not as useful as univariate regression models for the purpose of hedging corporate bond returns with equity. Further, for investment-grade bonds, hedging with Treasury bonds with a hedge ratio of unity is more effective than the Merton delta hedging with equity. However, we find that the Merton model is more useful for the purpose of hedging corporate bond spread changes, especially for high-yield bonds. Lastly, we also investigate the pricing performance of the Merton model. We find that on average the model overestimates (underestimates) prices (yield spreads) of bonds in our sample. Specifically, the model overestimates prices of corporate bonds by 1.87% on average. To sum, the evidence based on more recent data on transaction prices indicates that the Merton model still underpredicts yield spreads, especially for short-maturity or investment-grade bonds.
The Microstructure Of Fixed Income Markets
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Author : Marcelo Perlin
language : en
Publisher:
Release Date : 2010
The Microstructure Of Fixed Income Markets written by Marcelo Perlin and has been published by this book supported file pdf, txt, epub, kindle and other format this book has been release on 2010 with Arbitrage categories.
Volatility And Jump Risk Premia In Emerging Market Bonds
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Author : John Matovu
language : en
Publisher: International Monetary Fund
Release Date : 2007-07
Volatility And Jump Risk Premia In Emerging Market Bonds written by John Matovu and has been published by International Monetary Fund this book supported file pdf, txt, epub, kindle and other format this book has been release on 2007-07 with Business & Economics categories.
There is strong evidence that interest rates and bond yield movements exhibit both stochastic volatility and unanticipated jumps. The presence of frequent jumps makes it natural to ask whether there is a premium for jump risk embedded in observed bond yields. This paper identifies a class of jump-diffusion models that are successful in approximating the term structure of interest rates of emerging markets. The parameters of the term structure of interest rates are reconciled with the associated bond yields by estimating the volatility and jump risk premia in highly volatile markets. Using the simulated method of moments (SMM), results suggest that all variants of models which do not take into account stochastic volatility and unanticipated jumps cannot generate the non-normalities consistent with the observed interest rates. Jumps occur (8,10) times a year in Argentina and Brazil, respectively. The size and variance of these jumps is also of statistical significance.