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Macroeconomic Drivers of Bond and Equity Risks

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  • John Y. Campbell

    () (Harvard University)

  • Carolin Pflueger

    () (University of British Columbia)

  • Luis M. Viceira

    () (Harvard Business School, Finance Unit)

Abstract

Our new model of consumption-based habit formation preferences generates loglinear, homoscedastic macroeconomic dynamics and time-varying risk premia on bonds and stocks. Consumers' first-order condition for the real risk-free interest rate takes the form of an exactly loglinear consumption Euler equation, commonly assumed in New Keynesian models. Estimating the model separately for 1979-2001 and 2001-2011 explains why the exposure of US Treasury bonds to the stock market changed from positive to negative. A change in the comovement between inflation and the output gap explains changing bond risks, but only when risk premia change endogenously as predicted by the model.

Suggested Citation

  • John Y. Campbell & Carolin Pflueger & Luis M. Viceira, 2013. "Macroeconomic Drivers of Bond and Equity Risks," Harvard Business School Working Papers 14-031, Harvard Business School, revised Aug 2018.
    • Handle: RePEc:hbs:wpaper:14-031
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    1. Economists' advice
      by chris dillow in Stumbling and Mumbling on 2014-06-01 14:27:17

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    Cited by:

    1. Hossein Asgharian & Charlotte Christiansen & Ai Jun Hou, 2016. "Macro-Finance Determinants of the Long-Run Stock–Bond Correlation: The DCC-MIDAS Specification," Journal of Financial Econometrics, Society for Financial Econometrics, vol. 14(3), pages 617-642.
    2. Lakdawala, Aeimit & Wu, Shu, 2017. "Federal Reserve credibility and the term structure of interest rates," European Economic Review, Elsevier, vol. 100(C), pages 364-389.
    3. Yin-Wong Cheung & Kenneth K. Chow & Matthew S. Yiu, 2017. "Effects of capital flow on the equity and housing markets in Hong Kong," Pacific Economic Review, Wiley Blackwell, vol. 22(3), pages 332-349, August.
    4. Dufour, Alfonso & Stancu, Andrei & Varotto, Simone, 2017. "The equity-like behaviour of sovereign bonds," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 48(C), pages 25-46.
    5. Carolin E. Pflueger & Luis M. Viceira, 2011. "Return Predictability in the Treasury Market: Real Rates, Inflation, and Liquidity," Harvard Business School Working Papers 11-094, Harvard Business School, revised Sep 2013.
    6. Di Maggio, Marco & Kermani, Amir & Majlesi, Kaveh, 2018. "Stock Market Returns and Consumption," Working Paper Series 1198, Research Institute of Industrial Economics.
    7. Howard Kung & Gonzalo Morales & Alexandre Corhay, 2017. "Fiscal Discount Rates and Debt Maturity," 2017 Meeting Papers 840, Society for Economic Dynamics.
    8. Petar Sabtchevsky & Paul Whelan & Andrea Vedolin & Philippe Mueller, 2017. "Variance Risk Premia on Stocks and Bonds," 2017 Meeting Papers 1161, Society for Economic Dynamics.
    9. Mohsan Bilal, 2017. "Zeroing in: Asset Pricing at the Zero Lower Bound," 2017 Meeting Papers 377, Society for Economic Dynamics.
    10. John Y. Campbell & Carolin Pflueger & Luis M. Viceira, 2013. "Macroeconomic Drivers of Bond and Equity Risks," Harvard Business School Working Papers 14-031, Harvard Business School, revised Aug 2018.
    11. Geert Bekaert & Eric Engstrom & Andrey Ermolov, 2016. "Macro Risks and the Term Structure of Interest Rates," NBER Working Papers 22839, National Bureau of Economic Research, Inc.
    12. repec:eee:jfinec:v:126:y:2017:i:3:p:668-688 is not listed on IDEAS
    13. Alex Hsu & Erica X. N. Li & Francisco J. Palomino, 2016. "Real and Nominal Equilibrium Yield Curves: Wage Rigidities and Permanent Shocks," Finance and Economics Discussion Series 2016-032, Board of Governors of the Federal Reserve System (US).
    14. Erica Perego, 2018. "Sovereign risk and asset market dynamics in the euro area," Documents de recherche 18-01, Centre d'Études des Politiques Économiques (EPEE), Université d'Evry Val d'Essonne.
    15. Doh, Taeyoung & Wu, Shu, 2016. "The Equilibrium Term Structure of Equity and Interest Rates," Research Working Paper RWP 16-11, Federal Reserve Bank of Kansas City.
    16. Cho, Seonghoon & McCallum, Bennett T., 2015. "Refining linear rational expectations models and equilibria," Journal of Macroeconomics, Elsevier, vol. 46(C), pages 160-169.
    17. Guihai Zhao, 2018. "Ambiguity, Nominal Bond Yields and Real Bond Yields," Staff Working Papers 18-24, Bank of Canada.
    18. van Holle, Frederiek, 2017. "Essays in empirical finance and monetary policy," Other publications TiSEM 30d11a4b-7bc9-4c81-ad24-5, Tilburg University, School of Economics and Management.

    More about this item

    JEL classification:

    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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