Abstract
This study investigates the term-structure of sovereign emerging market yield spreads by decomposing it into the default risk component and the residual risk premium for Eurobonds of Mexico, Colombia and Brazil. We find that the risk premium tends to increase with maturity and account for the majority of the yield spread at all maturities for all three countries. The predominantly large, non-flat risk premium curve considerably modifies the yield spread term-structure which is implied by expected default losses. The risk premium and also its share within the yield spread both however vary considerably over time. The variation in risk premium changes is driven by common global and regional market risks. The relative impact of common market factors differs at short, medium and long maturities which is important in explaining risk premium dynamics that varies with bond maturity.
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