Bond Volatility Research Articles

Corporate bond trading in Indonesia: an empirical study of the role of volume and volatility

We examine the relationship between trading activity and price volatility in Indonesia corporate bond market using 2010-2014 data. We also investigate the role of liquidity and credit quality in this relationship. We find that volume and trading frequency have a positive and significant correlation to bond volatility, which is consistent with the information-based model. The results also suggest that liquidity plays an important role in their relationship, in which illiquidity causing stronger relationship between trading volume and price volatility. Credit quality, however, do not have similar effects on volatility where AAA-rated bonds tend to have higher volatility.

The Time Variation in Risk Appetite and Uncertainty

We formulate a dynamic no-arbitrage asset pricing model for equities and corporate bonds, featuring time variation in both risk aversion and economic uncertainty. The joint dynamics among cash flows, macroeconomic fundamentals and risk aversion accommodate both heteroskedasticity and non-Gaussianity. The model delivers measures of risk aversion and uncertainty at the daily frequency. We verify that equity variance risk premiums are very informative about risk aversion, whereas credit spreads and corporate bond volatility are highly correlated with economic uncertainty. Our model-implied risk premiums outperform standard instruments for predicting asset excess returns. Risk aversion is substantially correlated with consumer confidence measures, and in early 2020 reacted more strongly to new Covid cases than did an uncertainty proxy.

THE RELATION BETWEEN BOND FUND INVESTOR FLOWS AND VOLATILITY

This study applies the panel smooth transition regression (PSTR) model to investigate the non-linear dynamic relationship between bond fund flows and investment volatility in Taiwan. Our empirical results are as follows. (1) A bond fund's net flow and volatility present a non-linear relationship, (2) Investors' behavior is different under the volatility threshold value and the control variables of asset of funds, management fees and the Sharpe indicator, (3) The different risk attributes of bond funds produce completely different investor behavior. In sum, the threshold of volatility is an important index to look at when investing in bond funds.

The Long Bond, Long Forward Measure and Long-Term Factorization In Heath-Jarrow Morton Models

This paper proves existence of the long bond, long forward measure and long-term factorization of the stochastic discount factor (SDF) of Alvarez and Jermann (2005) and Hansen and Scheinkman (2009) in Heath-Jarrow-Morton (HJM) models in the function space framework of Filipovic´ (2001). In particular, a sufficient condition on the weight in the Hilbert space of forward rate volatility curves is given that ensures existence of the long bond volatility process, the long bond process and the long-term factorization of the SDF into discounting at the rate of return on the long bond and a martingale component defining the long forward measure, the long-term limit of T-forward measures.

Do economic variables improve bond return volatility forecasts?

This paper explores whether various economic variables improve monthly bond return volatility forecasts using the 1963–2012 data. In-sample analysis indicates that stock return or Federal Funds rate difference Granger causes bond volatility of all maturities. The forecasting ability of other variables mainly appears at the short end of the term structure or during the relatively turbulent time. Out-of-sample analysis suggests little evidence of forecast improvement, though forecast combination does improve the performance. Decomposing the out-of-sample forecasts indicates that the poor performance is primarily attributed to overfitting, and variable reduction by principal components does not change the results.

Pricing Coupon Bond Options and Swaptions under the One-Factor Hull–White Model

In this article, the authors propose an alternative approach for pricing bond options and swaptions under the one-factor Hull–White model. Their proposal differs from the existing models used to evaluate these type of instruments when the evolution of the term structure of interest rates is modeled by short-rate models. Assuming that the forward price of a coupon bond is a martingale under the forward risk-neutral measure, the proposed model involves deriving the volatility of the coupon bond as a function of its stochastic duration. Once the volatility function is defined, the price of options on coupon bonds can be derived by simply applying the standard no-arbitrage pricing theory in the context of the one-factor Hull–White model. Given the equivalence between the price of a coupon bond and the price of the corresponding swaptions, this approach can be adopted to calibrate the parameters of the one-factor Hull–White model using swaptions quoted in the market. The new solution proposed for the calibration can be considered as an alternative with respect to the existing approaches proposed in the literature and used currently by practitioners. Numerical results are provided in order to analyze the features of the proposed model for calibration purposes. <b>TOPICS:</b>Fixed income and structured finance, derivatives applications, quantitative methods

Does More Complex Language in FOMC Decisions Impact Financial Markets?

This paper is built around a simple premise that is based on the theoretical models of Harris and Raviv (1993) and Kandel and Pearson (1995). Complex statements are more difficult to interpret and may be construed in different ways by different agents. This creates heterogeneity of beliefs among market participants that manifests in increased market activity. We confirm existing results that show monetary policy surprises have a significant impact on financial markets. Importantly, we demonstrate that linguistic complexity (measured in terms of readability and number of words) of FOMC statements that accompany monetary policy decisions significantly increases the trading volume, and volatility of returns, in stock, bond, and currency markets. We also establish that financial markets are more responsive to monetary policy decisions (and the language of those statements) during recession.

Contagion, Volatility Persistence, and Volatility Spill-Overs: The Case of Energy Markets During the European Financial Crisis

The aim of this paper is to investigate if, and to what extent, events from the three financially troubled EU markets (Greece, Ireland, and Portugal) affected energy prices during the recent EU financial crisis. More specifically, (i) we test for contagion effects from bond markets on energy/commodity prices, (ii) we examine whether the nature of energy price volatility is affected, and (iii) we investigate whether bond volatility from the financially distressed EU markets spills over, subsequently affecting energy/commodity return volatility. Our results indicate the existence of significant contagion effects from the bond markets of the three EU countries that received bailout packages on energy/commodity prices and significant changes in the nature of energy/commodity volatility during the EU financial crisis. We also report the existence of significant volatility spill-over effects.

Long-Term Factorization of Affine Pricing Kernels

This paper constructs and studies the long-term factorization of affine pricing kernels into discounting at the rate of return on the long bond and the martingale component that accomplishes the change of probability measure to the long forward measure. The principal eigenfunction of the affine pricing kernel germane to the long-term factorization is an exponential-affine function of the state vector with the coefficient vector identified with the fixed point of the Riccati ODE. The long bond volatility and the volatility of the martingale component are explicitly identified in terms of this fixed point. A range of examples from the asset pricing literature is provided to illustrate the theory.

Macroeconomic and Financial Determinants of the Volatility of Corporate Bond Returns

In this paper, we address the issue of how macroeconomic conditions affect corporate bond volatility. We employ the GARCH-MIDAS multiplicative two-component model of volatility that distinguishes the short-term dynamics from the long-run component of volatility. Both the in-sample and out-of-sample analysis show that recognizing the existence of a stochastic low-frequency component captured by macroeconomic and financial indicators may improve the fit of the model to actual bond return data, relative to the constant long-run component embedded in a typical GARCH model.

An Empirical Research on Corporate Bond Trading in Indonesia: The Role of Volume and Volatility

We examine the relationship between trading activity and price volatility in Indonesia corporate bond market using 2010-2014 data. We also investigate the role of liquidity and credit quality in this relationship. We find that volume and trading frequency have a positive and significant correlation to bond volatility, which is consistent with information-based model. The results also suggest that liquidity plays an important role in their relationship, in which illiquidity causing stronger relationship between trading volume and price volatility. Credit quality, however, do not have similar effects on volatility where AAA-rated bonds have higher volatility.

Do stylized facts of equity-based volatility indices apply to fixed-income volatility indices? Evidence from the US Treasury market

In this paper, we examine whether widely documented properties of equity-based volatility indices apply to US Treasury bond volatility indices (TBVIXs). We calculate TBVIXs in a model-free way using the market prices of five-, ten- and 30-year Treasury futures options over a sample of more than 20years. The empirical findings of this study reveal that changes in TBVIXs are positively correlated with changes in both Treasury yield rates and US non-fixed income and European equity-based volatility indices. Our analysis also shows that changes in Treasury yield rates Granger cause changes in TBVIXs and that past changes in TBVIXs help explain current changes in equity-based volatility indices (and vice versa). Finally, we find that TBVIXs fall following scheduled macroeconomic news announcements and that the response of TBVIXs to news releases depends to some extent on the magnitude and sign of the surprise in the announcement. This study's findings have implications for volatility risk management using the recently listed futures on the Chicago Board of Options Exchange's ten-year Treasury note volatility index.

Credit Spreads and Regime Shifts

The authors use data on a large sample of investment-grade and high-yield corporate bonds of non-financial firms to investigate the stability of the relationship between yield spreads and both Treasury term structure and market risk variables. The sample spans before, during, and after the recent financial crisis. Regression model estimates reveal a negative relationship between credit spread changes and changes in the term structure variables, as well as a significant effect of stock market conditions, bond volatility, and aggregate liquidity on spreads. Results from a Markov switching-regime model confirm the presence of two regimes and show different effects of certain spread determinants undereach regime.

Effects of macroeconomic uncertainty on the stock and bond markets

In this paper we show that the long-run stock and bond volatility and the long-run stock–bond correlation depend on macroeconomic uncertainty. We use the mixed data sampling (MIDAS) econometric approach. The findings are in accordance with the flight-to-quality phenomenon when macroeconomic uncertainty is high.

Time-Varying Disaster Risk Models: An Empirical Assessment of the Rietz-Barro Hypothesis

This paper revisits the t of disaster risk models where a representative agent has recursive preferences and the probability of a macroeconomic disaster changes over time. We calibrate the model as in Wachter (2013) and perform two sets of tests to assess the empirical performance of the model in long run simulations. The model is solved using a two step projection-based method that allows us to nd the equilibrium consumption-wealth ratio and dividend-yield for dierent values of the intertemporal elasticity of substitution. By xing the elasticity of substitution to one, the rst experiment indicates that the overall t of the model is adequate. However, we nd that the amount of aggregate stock market volatility that the model can generate is sensible to the method used to solve the model. We also nd that the model generates near unit root interest rates and a puzzling ranking of volatilities between the risk free rate and the expected return on government bills. We later solve the model for values of the elasticity of substitution that dier from one. This second experiment shows that while a higher elasticity of substitution helps to increase the aggregate stock market volatility and hence to reduce the Sharpe Ratio, a lower elasticity of substitution generates a more reasonable level for the equity risk premium and for the volatility of the government bond returns without compromising the ability of the price-dividend ratio to predict excess returns.

Effects of Macroeconomic Uncertainty on the Stock and Bond Markets

In this paper we show that the long-run stock and bond volatility and the long-run stock-bond correlation depend on macroeconomic uncertainty. We use the mixed data sampling (MIDAS) econometric approach. The findings are in accordance with the flight-to-quality phenomenon when macroeconomic uncertainty is high.

Some Stylized Facts for Investment Strategies

Abstract In this paper, I review some stylized facts for investment strategies relevant for public investors’ asset allocation. Through historical analysis, the risk-return profile of bond turns out to be greatly related to current yield level and that of stock turns out to be affected by business cycle. Taking these characteristics factors into account, I estimated the mean, variance and volatility of stocks and bonds. According to my estimates, the investment environment for the upcoming next five years is likely to be very poor. As a result, the working environment for public investor's asset managers is expected to be much worse that during the past three decades.

Interest Rate Volatility: A Consol Rate Approach

In this paper, we propose a new methodology to estimate the volatility of interest rates in the euro area money market. In particular, our approach aims at avoiding the limitations of market implied volatilities, i.e. the dependency on arbitrary choices in terms of maturity and frequencies and/or of other factors like credit and liquidity risks. The measure is constructed as the implied instantaneous volatility of a consol bond that would be priced on the EONIA swap curve over the sample period from 4 January 1999 to 21 November 2013. Our findings show that this measure tracks well the historical volatility since, by dividing the consol excess returns by our volatility measure. This removes nearly entirely excess of kurtosis and volatility clustering, bringing the excess returns close to an ordinary Gaussian white noise.

Volatility transmission in global financial markets

This paper considers the transmission of volatility in global foreign exchange, equity and bond markets. Using a multivariate GARCH framework which includes measures of realised volatility as explanatory variables, significant volatility and news spillovers are found to occur on the same trading day between Japan, Europe, and the United States. All markets exhibit significant degrees of asymmetry in terms of the transmission of volatility associated with good and bad news. There are also strong links between diffusive volatilities in all three markets, whereas jump activity is only important within the equity markets. The results of this paper deepen our understanding of how news and volatility are propagated through global financial markets.

The effects of quantitative easing on the volatility of the gilt-edged market

We model the effects of quantitative easing on the volatility of returns to individual gilts, examining both the effects of QE overall and of the specific days of asset purchases. The action of QE successfully neutralized the six fold increase in volatility that had been experienced by gilts since the start of the financial crisis. The volatility of longer term bonds reduced more quickly than the volatility of short to medium term bonds. The reversion of the volatility of shorter term bonds to pre-crisis levels was found to be more sensitive to the specific operational actions of QE, particularly where they experienced relatively greater purchase activity.