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Speculation, Sentiment, and Interest Rates

Author

Listed:
  • Andrea Buraschi

    (Imperial College, London SW7 2AZ, United Kingdom)

  • Paul Whelan

    (Copenhagen Business School, 2000 Frederiksberg, Denmark)

Abstract

We compare the implications of speculation versus hedging channels for bond markets in heterogeneous agents’ economies. Treasuries command a significant risk premium when optimistic agents speculate by leveraging their positions using bonds. Disagreement drives a wedge between marginal agent versus econometrician beliefs (sentiment). When speculative demands dominate, the interaction between belief heterogeneity and sentiment helps rationalize several puzzling characteristics of Treasury markets. Empirically, we test model predictions and find that larger disagreement (i) lowers the risk-free rate, (ii) raises the slope of the yield curve, and (iii) with positive sentiment increases bond risk premia and makes its dynamics countercyclical.

Suggested Citation

  • Andrea Buraschi & Paul Whelan, 2022. "Speculation, Sentiment, and Interest Rates," Management Science, INFORMS, vol. 68(3), pages 2308-2329, March.
    • Handle: RePEc:inm:ormnsc:v:68:y:2022:i:3:p:2308-2329
    DOI: 10.1287/mnsc.2021.3956
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    References listed on IDEAS

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