IDEAS home Printed from https://ideas.repec.org/
MyIDEAS: Login to save this paper or follow this series

Bond Risk Premia

  • John H. Cochrane
  • Monika Piazzesi

This paper studies time variation in expected excess bond returns. We run regressions of annual excess returns on forward rates. We find that a single factor predicts 1-year excess returns on 1-5 year maturity bonds with an R2 up to 43%. The single factor is a tent-shaped linear function of forward rates. The return forecasting factor has a clear business cycle correlation: Expected returns are high in bad times, and low in good times, and the return-forecasting factor forecasts long-run output growth. The return-forecasting factor also forecasts stock returns, suggesting a common time-varying premium for real interest rate risk. The return forecasting factor is poorly related to level, slope, and curvature movements in bond yields. Therefore, it represents a source of yield curve movement not captured by most term structure models. Though the return-forecasting factor accounts for more than 99% of the time-variation in expected excess bond returns, we find additional, very small factors that forecast equally small differences between long term bond returns, and hence statistically reject a one-factor model for expected returns.

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

File URL: http://www.nber.org/papers/w9178.pdf
Download Restriction: no

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 9178.

as
in new window

Length:
Date of creation: Sep 2002
Date of revision:
Publication status: published as Cochrane, John H. and Monika Piazzesi. "Bond Risk Premia," American Economic Review, 2005, v95(1,Mar), 138-160.
Handle: RePEc:nbr:nberwo:9178
Note: AP EFG ME
Contact details of provider: Postal: National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.
Phone: 617-868-3900
Web page: http://www.nber.orgEmail:


More information through EDIRC

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

as in new window
  1. John Y. Campbell & John H. Cochrane, 1995. "By Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior," NBER Working Papers 4995, National Bureau of Economic Research, Inc.
  2. Andrew Ang & Monika Piazzesi, 2001. "A No-Arbitrage Vector Autoregression of Term Structure Dynamics with Macroeconomic and Latent Variables," NBER Working Papers 8363, National Bureau of Economic Research, Inc.
  3. Lars Peter Hansen & Ravi Jagannathan, 1990. "Implications of security market data for models of dynamic economies," Discussion Paper / Institute for Empirical Macroeconomics 29, Federal Reserve Bank of Minneapolis.
  4. Geert Bekaert & Robert J. Hodrick & David Marshall, 1996. "On biases in tests of the expectations hypothesis of the term structure of interest rates," Working Paper Series, Issues in Financial Regulation WP-96-3, Federal Reserve Bank of Chicago.
  5. Rudebusch, G.D., 1996. "Do Measures of Monetary Policy in a VAR Make Sense?," Papers 269, Banca Italia - Servizio di Studi.
  6. Söderlind, Paul & Svensson, Lars E O, 1997. "New Techniques to Extract Market Expectations from Financial Instruments," CEPR Discussion Papers 1556, C.E.P.R. Discussion Papers.
  7. Wayne E. Ferson & Campbell R. Harvey, 1999. "Conditioning Variables and the Cross Section of Stock Returns," Journal of Finance, American Finance Association, vol. 54(4), pages 1325-1360, 08.
  8. Campbell, John Y & Shiller, Robert J, 1991. "Yield Spreads and Interest Rate Movements: A Bird's Eye View," Review of Economic Studies, Wiley Blackwell, vol. 58(3), pages 495-514, May.
  9. Gibbons, Michael R. & Ferson, Wayne, 1985. "Testing asset pricing models with changing expectations and an unobservable market portfolio," Journal of Financial Economics, Elsevier, vol. 14(2), pages 217-236, June.
  10. Sydney Ludvigson & Martin Lettau, 1999. "Consumption, aggregate wealth and expected stock returns," Staff Reports 77, Federal Reserve Bank of New York.
  11. John Y. Campbell, 1995. "Some Lessons from the Yield Curve," Journal of Economic Perspectives, American Economic Association, vol. 9(3), pages 129-152, Summer.
  12. Stambaugh, Robert F., 1988. "The information in forward rates : Implications for models of the term structure," Journal of Financial Economics, Elsevier, vol. 21(1), pages 41-70, May.
  13. Darrell Duffie & Rui Kan, 1996. "A Yield-Factor Model Of Interest Rates," Mathematical Finance, Wiley Blackwell, vol. 6(4), pages 379-406.
  14. Arturo Estrella & Gikas A. Hardouvelis, 1989. "The term structure as a predictor of real economic activity," Research Paper 8907, Federal Reserve Bank of New York.
  15. Cochrane, John H, 1994. "Permanent and Transitory Components of GNP and Stock Prices," The Quarterly Journal of Economics, MIT Press, vol. 109(1), pages 241-65, February.
  16. Lars Peter Hansen & Robert J. Hodrick, 1983. "Risk Averse Speculation in the Forward Foreign Exchange Market: An Econometric Analysis of Linear Models," NBER Chapters, in: Exchange Rates and International Macroeconomics, pages 113-152 National Bureau of Economic Research, Inc.
  17. John Y. Campbell & John Cochrane, 1999. "Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior," Journal of Political Economy, University of Chicago Press, vol. 107(2), pages 205-251, April.
  18. Stock, J.H. & Watson, M.W., 1989. "New Indexes Of Coincident And Leading Economic Indicators," Papers 178d, Harvard - J.F. Kennedy School of Government.
  19. Fama, Eugene F & Bliss, Robert R, 1987. "The Information in Long-Maturity Forward Rates," American Economic Review, American Economic Association, vol. 77(4), pages 680-92, September.
  20. Fama, Eugene F. & French, Kenneth R., 1989. "Business conditions and expected returns on stocks and bonds," Journal of Financial Economics, Elsevier, vol. 25(1), pages 23-49, November.
  21. Joel T. Krueger & Kenneth N. Kuttner, 1995. "The Fed funds futures rate as a predictor of Federal Reserve policy," Working Paper Series, Macroeconomic Issues 95-4, Federal Reserve Bank of Chicago.
  22. Dai, Qiang & Singleton, Kenneth J., 2002. "Expectation puzzles, time-varying risk premia, and affine models of the term structure," Journal of Financial Economics, Elsevier, vol. 63(3), pages 415-441, March.
  23. Gregory R. Duffee, 2002. "Term Premia and Interest Rate Forecasts in Affine Models," Journal of Finance, American Finance Association, vol. 57(1), pages 405-443, 02.
Full references (including those not matched with items on IDEAS)

This item is featured on the following reading lists or Wikipedia pages:

  1. Bond Risk Premia (AER 2005) in ReplicationWiki

When requesting a correction, please mention this item's handle: RePEc:nbr:nberwo:9178. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: ()

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.

This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.