Expectations Hypothesis Of The Term Structure Research Articles

Dynamically adjusted cross-currency carry strategy

We examine time-varying excess return in a dynamically adjusted international “cross-currency” carry strategy, with a focus on excess returns. Unlike traditional carriers that fund and invest in bonds with the same maturities, the novel dynamic strategy involves funding with a 1-year low-yield treasury bond and investing in 2- to 10-year high-yield bonds in other currencies. An analysis of Sharpe ratios, foreign exchange (FX), and yield excess return shows variations in the joint expectation hypotheses expectations hypothesis of the term structure (EHTS) and the uncovered interest rate parity (UIRP) lead to profits. However, the international strategies perform worse than the domestic carry strategies. Predictive factors, such as the Cochrane–Piazzesi, show limited effectiveness due to FX volatility. Therefore, future studies should examine more predictability factors.

Functional Cointegration Test for Expectation Hypothesis of the Term Structure of Interest Rates in China

Functional Cointegration Test for Expectation Hypothesis of the Term Structure of Interest Rates in China

Repo rates as reference interest rates: testing the expectations hypothesis of the term structure of interest rates

The subject of this paper is the consideration of the role of the repo market and the quality of repo rates in the formation of reference interest rates that would be used to assess the value of financial instruments and derivatives. Unsecured money markets carry a certain level of risk, thus, the question arises whether the existing reference interest rates should be replaced by repo rates or other interest rates on secured loans. Reference interest rates on the money market play an important role in a country's monetary policy. Through operations on the short-term money market, Central Banks try to influence interest rates with long maturities. One of the most well-known theories that considers the question of the relationship between short-term and long-term interest rates is the expectations hypothesis. In this paper, expectations hypothesis is tested on the example of daily data of overnight interest rates related to secured interbank loans. Two samples were used, and term premiums were estimated for both short-term (up to one year using LIBOR interest rates) and long-term maturities (from two to ten years using ICE swap interest rates). The hypothesis is tested using two econometric tests proposed by Campbell and Shiller (1991). The tests were also applied to the overnight interest rates of interbank loans that are not secured, in order to get a better comparative picture. The results show that collateralized interest rates are good indicators of benchmark interest rates, and in some cases even more accurate predictors of long-term interest rates.

A Comparative Analysis of the Expectations Hypothesis of the Term Structure of Interest Rates between the BRICS and G7 Countries

This paper examines the predictive ability of the expectations hypothesis of the term structure of interest rates in the BRICS and G7 countries by relating each country’s monthly 3‑month Treasury bill rate to 10‑year government bond rates, from May 2003 to May 2018. The panel ARDL model, applying the mean group (MG), pooled mean group (PMG), and dynamic fixed effects (DFE) estimators, is employed to compare the short‑ and long‑run relationships in both groups of countries. The results show that the expectations hypothesis holds in both BRICS and G7 country groups. In the long run, the short‑term interest rate is able to predict the long-term interest rate in both the BRICS and G7 countries. Interest rates in BRICS indicate rapid adjustment back to the long‑run equilibrium, while the adjustment is sluggish in the G7 block. Based on the findings of the study, the sluggish adjustment to the equilibrium in the G7 gives the impression that the financial crisis had an impact on the term structure of interest rates as the G7 countries were directly affected by the crisis.

Validity of the Expectations Hypothesis of the Term Structure of Interest Rates: The Case of Saudi Arabia

Abstract We examine and test the validity of the expectation hypothesis of the term structure (EHTS) of interest rates in Saudi Arabia using the traditional single equation approach, Campbell and Shiller methodology, Error Correction Model, and monthly data over the period June 1983 to December 2014. The results of the single equation approach indicate that the test of validity of the expectation hypothesis cannot be rejected for all maturities. We also find that the validity of the EHTS of interest rates is supported through the stationarity of the term spreads between short- and long-term interest rates. Moreover, the cointegration test reveals the existence of a cointegration relationship between short- and long-term interest with ( 1 − 1 ) $\left(1-1\right)$ cointegrating vector, suggesting the validity EHTS of interest rates. Policy implications based on the empirical results suggest that the transparency of monetary policy in Saudi Arabia and the effective role of the Saudi Arabian Monetary Authority (SAMA) in conducting monetary policy increase the predictive power of market participants of future movements of short-term interest rates.

A Behavioral Approach of The Expectations Hypothesis of the Term Structure of Interest Rates

The purpose of this study is to analyze the consequences of relaxing agent’s rationality assumption on the term structure of interest rates formation process. We propose a theoretical model by applying some behavioral finance theory to the term structure of interest rate, including the prospect theory, anchoring and overconfidence. The theoretical model proposed was tested on US T-Bill secondary market data. The results show that agents are more preoccupied by interest rate variation direction in their forecasting than it absolute level. Nevertheless, the long rate can be considers as a portfolio of shorts rates but with different weights depending on the behavior of market operators. For US, although the future variation of interest rates is strongly predictable, operators are “anchoring” themselves to the actual level of interest rate, overweighting it value. It also appears that loose aversion as well can explain the shape of the yield curve at a given time.

An Analysis of the Effect of Global Financial Crisis on the Expectation Hypothesis of the Term Structure of Interest Rates in the Korean Bond Market

글로벌 금융위기로 세계의 금융시장은 크게 변화하였다. 본 연구는 이자율의 기간별 구조이론을 설명하는 기대가설에 입각하여 글로벌 금융위기 전후로 한국의 채권시장이 어떻게 변하였는지를 분석하였다. 기대가설에 따르면 채권시장의 선도이자율은 미래 단기이자율의 기댓값으로 해석할 수 있다. Fama, Bliss(1987)는 기대가설을 검정하기 위하여 선도이자율이 채권의 초과수익률을 설명할 수 없다는 가정 하에 회귀방정식을 사용하여 기대가설을 검정하였다. 본 연구에서는 Fama, Bliss(1987)의 회귀방정식을 사용하여 글로벌 금융위기 전과 후를 두 기간으로 나누어 기대가설을 검정하였고 글로벌 금융위기 전에는 통계적으로 기대가설을 반증하는 결과가 나타난다. 이러한 기대가설을 반증하는 결과는 금융시장에서 차익거래가 존재한다고 해석할 수 있고 이것을 채권시장의 이상 현상(anomaly)이라고 해석할 수 있다. 글로벌 금융위기 이후는 통계적으로 기대가설을 반증하는 결과가 줄어드는 실증분석 결과를 볼 수 있다. 그러므로 글로벌 금융위기 전후로 기대가설의 검정의 결과가 시간에 따라 변하였다고 할 수 있고 글로벌 금융위기 전후로 회귀계수가 변화되었음을 Chow 검정을 통하여 보여주었다. 따라서 통계적으로 글로벌 금융위기 전후로 한국의 채권시장의 기대가설의 증거는 변하였다고 해석할 수 있고 한국의 채권시장이 글로벌 금융위기 이후 차익거래 기회가 줄어들고 이상 현상이 줄어들어 채권시장이 더욱 투명해지고 효율적으로 변하고 있다고 해석할 수 있다.According to the expectation hypothesis, the forward rate of interest is an unbiased expectation of future spot rates and excess returns cannot be explained by the forward rates. The global financial crisis had changed many things in the financial market. This paper empirically tests whether the expectation hypothesis changes during the global financial crisis. Using the Korean bond data, we apply the Fama-Bliss regression to test whether forward rates predict excess returns before and after the 2008 financial crisis. We find statistically significant evidence against the expectation hypothesis in the pre-period of the financial crisis. But, the expectation hypothesis is not rejected in the post-period. We also show that the Fama-Bliss regression results change significantly before and after the crisis based on the Chow test. The evidence against the expectation hypothesis can be understood as an anomaly. Therefore, our result means that anomalies in the financial market tend to be diminished after the global financial crisis.

Term structure dynamics at low and negative interest rates\u2014evidence from Switzerland

This paper studies the transmission of changes in short-term interest rates to longer-term government bond yields when interest rates are at very low levels or negative. We focus on Switzerland, where short-term interest rates have been at zero since late 2008 and negative since the beginning of 2015. The expectations hypothesis of the term structure implies that as nominal interest rates approach their lower bound, the effect of short-term rates on longer-term yields should decline, and positive short rate changes should have larger absolute effects than negative short rate changes. Contrary to studies of other countries, we find no evidence for a decline in the effect of short rate changes for the low-interest rate period using Swiss data. However, we do find evidence for the predicted asymmetric effect for positive and negative short rate changes during the period when short-term rates are close to zero. This asymmetry normalized again after the introduction of negative interest rates.

The expectations hypothesis of the term structure of interest rates: The Brazilian case revisited

ABSTRACTThis article tests the Expectations Hypothesis (EH) using Brazilian monthly data for bond yields spanning the 2000–2017 sample period and ranging in maturity from 3 months to 5 years. Three tests are examined: the first is based on interest rates spread and the other two are based on the forward rates. On balance our results suggest rejection of the EH throughout the maturity spectrum examined, and are broadly consistent with previous findings that a linear combination of forward rates provides a statistically significant prediction of bond excess returns.

The Expectations Hypothesis of the Term Structure in the Philippines: An Empirical Note (2001-2017)

This paper provides a first assessment about the Expectations Hypothesis of the Term Structure (EHTS) in the Philippines. In line with the EHTS, there is strong support for cointegration between interest rates at different maturities, while no significant risk premium components are detected. However, the ?symmetry? restriction, assuming equi-proportional yields movements, is strongly rejected. Finally, there is strong evidence of unidirectional causality from short to long-term interest rates. The main policy implications are that: (a) monetary policy should be mainly focused on the management of longer term maturities; (b) monetary policy should rely on interest rates smoothing, in order to prevent potentially destabilizing effects.

Structural Breaks and the Expectations Hypothesis of the Term Structure: Some Empirical Evidence for the Philippines (2001-2017)

This paper extends the empirical investigation of Tronzano (2018b) applying a cointegration test allowing for a structural break in the long-run equilibrium relationship. In line with Tronzano (2018b) the null hypothesis of absence of cointegration is strongly rejected for all interest rates maturities, while a significant structural break is detected at the end of 2008. A decrease in risk premium components is documented after the 2008 structural break, while the “symmetry” restriction is only supported after this regime-shift. Overall, the policy prescriptions from this analysis are in line with those outlined in Tronzano (2018b) supporting a monetary policy strategy based on interest rate smoothing.

Response Surface Models for the Elliott, Rothenberg, and Stock Unit-root Test

In this article, we present response surface coefficients for a large range of quantiles of the Elliott, Rothenberg, and Stock (1996, Econometrica 64: 813–836) unit-root tests, for different combinations of number of observations, T, and lag order in the test regressions, p, where the latter can either be specified by the user or be endogenously determined. The critical values depend on the method used to select the number of lags. We present the command ersur and illustrate its use with an empirical example that tests the validity of the expectations hypothesis of the term structure of interest rates.

Rethinking cointegration and the expectation hypothesis of the term structure

Abstract Empirical investigations of the expectations hypothesis of the term structure often test the stationarity on the yield spread. We show that as the term difference increases this stationarity breaks down even under the most favorable assumption with regard to the risk premium. As a result, these cointegration tests are inappropriate. We conduct Monte Carlo simulations and provide empirical evidences that the frequency with which the data fail to reject no cointegration increases as the term difference increases. This finding remains robust after we account for a proxy for risk premium, asymmetries, and employ a new augmented error correction model that allows for time-varying error correction terms.

Lower Bound Beliefs and Long-Term Interest Rates

We study the transmission of changes in the believed location of the lower bound to longterm interest rates since the introduction of negative interest rate policies. The expectations hypothesis of the term structure combined with a lower bound on policy rates suggests that normal policy transmission is reduced when policy rates approach this lower bound. We show that if market participants revise downward the believed location of the lower bound, this may in itself reduce long-term yields. Moreover, normal policy transmission to long-term rates increases. A cross-country event study suggests that such effects have been empirically relevant during the recent negative interest rate episode.

Lower Bound Beliefs and Long-Term Interest Rates

We study the transmission of changes in the believed location of the lower bound to longterm interest rates since the introduction of negative interest rate policies. The expectations hypothesis of the term structure combined with a lower bound on policy rates suggests that the transmission of policy rate changes to long-term interest rates is reduced when policy rates approach this lower bound. We show that if market participants revise downward the believed location of the lower bound, this may reduce long-term yields and increase transmission. A cross-country event study suggests that such effects have been empirically relevant during the recent negative interest rate episode.

Response Surface Models for the Elliott, Rothenberg, and Stock Unit-root Test

In this article, we present response surface coefficients for a large range of quantiles of the Elliott, Rothenberg, and Stock (1996, Econometrica 64: 813–836) unit-root tests, for different combinations of number of observations, T, and lag order in the test regressions, p, where the latter can either be specified by the user or be endogenously determined. The critical values depend on the method used to select the number of lags. We present the command ersur and illustrate its use with an empirical example that tests the validity of the expectations hypothesis of the term structure of interest rates.

Surprises, sentiments, and the expectations hypothesis of the term structure of interest rates

This study shows that time-varying coefficients in the term structure of interest rates equation are correlated with the time-varying term premiums (TVTP) and expectation error (EE). Consistent with Froot (J Finance 44:283–305, 1989), TVTP and EE are the main factors that cause variations in the expectations hypothesis. Once the TVTP and the EE are appropriately incorporated into the model, the GARCH-M evidence fades away. This study documents that investors’ sentiment and macroeconomic surprises are the main driving forces behind the TVTP and EE. Evidence of significant sentiment and its interacting with macroeconomic surprises shed some light on the bias due to behavioral variations.

The expectations hypothesis of the term structure of interest rates and monetary policy: some evidence from Asian countries

ABSTRACTThis article outlines a panel data approach to modelling the term structure of interest rates in the short and in the long run. We find robust evidence supporting the expectations hypothesis of the term structure (EHTS) for a small sample of Asian emerging markets. Furthermore, we detect some relevant differences in the transmission mechanism of monetary policy, and the existence of a McCallum (2005) rule (no exogeneity of monetary policy to the yield curve) in some countries. Finally, we document the influence of an international global factor (i.e. a time-varying global risk premium) on the yield curve, while local country-specific factors are not statistically significant.

Interest parity, cointegration, and the term structure: Testing in an integrated framework

In this paper, we develop a methodology for testing jointly the validity of the expectations hypothesis of the term structure (EHTS) and the uncovered interest rate parity (UIRP) within the framework provided by cointegration theory. For this purpose, we use data on interest rates from the U.S. dollar-Libor, GBP-Libor, and Euro-Libor markets with maturities ranging from 7days to 12months. The main findings of our analysis are as follows: (i) we fail to find the correct rank of the cointegration space suggested by our methodology; (ii) with the application of tests for parameter stability in cointegrated models, we show that our cointegration results are sample independent and that the estimated coefficients do not suffer from instabilities in recursive estimations; (iii) from the moving average representation of the model, we estimate the common stochastic trends whose components establish, in the USD/Euro case, the interdependence of interest rates in the formation of the driving forces of the system; (iv) we manage to identify with the two theories a sub-space of the estimated cointegration space.

The expectations hypothesis and decoupling of short- and long-term US interest rates: A pairwise approach

The link between short-term policy rates and long-term rates elucidate the potential effectiveness of monetary policy. We examine the US term structure of interest rates using a pairwise econometric approach advocated by Pesaran (2007). Our empirical modelling strategy employs a probabilistic test statistic for the expectations hypothesis of the term structure based on the percentage of unit root rejections among all interest rate differentials. We find support for the expectations hypothesis and provide new insights into the nature of interest rate decoupling which are of value to policymakers. The maturity gap associated with interest rate pairs negatively impacts on the probability of stationarity, and also on the speed of adjustment towards long-run equilibrium. We further show that the speed of adjustment has become more sensitive to the maturity gap over time.