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Bond Supply and Excess Bond Returns

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  • Greenwood, Robin
  • Vayanos, Dimitri

Abstract

We examine empirically how the maturity structure of government debt affects bond yields and excess returns. Our analysis is based on a theoretical model of preferred habitat in which clienteles with strong preferences for specific maturities trade with arbitrageurs. Consistent with the model, we find that (i) the supply of long- relative to short-term bonds is positively related to the term spread, (ii) supply predicts positively long-term bonds' excess returns even after controlling for the term spread and the Cochrane-Piazzesi factor, (iii) the effects of supply are stronger for longer maturities, and (iv) following periods when arbitrageurs have lost money, both supply and the term spread are stronger predictors of excess returns.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 6694.

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Date of creation: Feb 2008
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Handle: RePEc:cpr:ceprdp:6694

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Keywords: bond prices; limited arbitrage; preferred habitat; return predictability;

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  1. Greenwood, Robin, 2005. "Short- and long-term demand curves for stocks: theory and evidence on the dynamics of arbitrage," Journal of Financial Economics, Elsevier, vol. 75(3), pages 607-649, March.
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  16. Arvind Krishnamurthy & Annette Vissing-Jorgensen, 2007. "The Demand for Treasury Debt," NBER Working Papers 12881, National Bureau of Economic Research, Inc.
  17. John H. Cochrane & Monika Piazzesi, 2005. "Bond Risk Premia," American Economic Review, American Economic Association, vol. 95(1), pages 138-160, March.
  18. Julia Fernald & Patricia C. Mosser & Frank Keane, 1994. "Mortgage security hedging and the yield curve," Research Paper 9411, Federal Reserve Bank of New York.
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  1. The Federal Reserve's Maturity Extension Program and Treasury debt management
    by James Hamilton in Econbrowser on 2012-08-08 11:55:53
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