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Price distortions and municipal bonds premiums: evidence from Switzerland

Author

Listed:
  • Darko B. Vukovic

    (National Research University Higher School of Economics)

  • Carlos J. Rincon

    (National Research University Higher School of Economics)

  • Moinak Maiti

    (National Research University Higher School of Economics)

Abstract

This study examines the pricing of municipal bonds before and after a currency shock in Switzerland. Two approaches are used to decompose the municipal to treasuries bond spreads into liquidity, maturity, and default risk premiums. The first approach is the model of the cross-sectional instrumental variables, and the second approach is the model of the instrumental variables with panel data. This study examines the composition of spreads for both approaches, in three scenarios: before, throughout, and after the currency shock. The study performed Durbin-Wu-Hausman tests for each decisive model to verify endogeneity issues, including the Lagrangian Multiplier test, the Cragg-Donald Wald F statistic to confirm the relationship of instrumental and endogenous variables, and the structural break test (Bai-Perron test) to determine the existence of structural breaks in bond distortions. This study finds that the currency price distortions of the Swiss franc in January 2015 made long-run changes in the composition of the municipal bond spreads. This research contributes to the understanding of municipal bond pricing by showing that default risk accounts for a large portion of the municipal bond spread, while maturity risk plays a lesser role. According to our empirical findings, unexpected large currency price shocks may have long-term implications on the municipal bond spreads.

Suggested Citation

  • Darko B. Vukovic & Carlos J. Rincon & Moinak Maiti, 2021. "Price distortions and municipal bonds premiums: evidence from Switzerland," Financial Innovation, Springer;Southwestern University of Finance and Economics, vol. 7(1), pages 1-21, December.
    • Handle: RePEc:spr:fininn:v:7:y:2021:i:1:d:10.1186_s40854-021-00276-8
    DOI: 10.1186/s40854-021-00276-8
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    More about this item

    Keywords

    Municipal bonds; Risk premiums; Bond spreads; Price distortions;
    All these keywords.

    JEL classification:

    • E4 - Macroeconomics and Monetary Economics - - Money and Interest Rates
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E47 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Forecasting and Simulation: Models and Applications
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation

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