Expected Term Structures

Buraschi, Andrea, Piatti, Ilaria and Whelan, Paul (2017) Expected Term Structures. Saïd Business School Working Paper 2016-36.

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Abstract

This paper studies the properties of bond risk premia in the cross-section of subjective expectations. We exploit an extensive dataset of yield curve forecasts from financial institutions and document a number of novel findings. First, contrary to evidence presented for stock markets but consistent with rational expectations, the relation between subjective expectations and future realizations is positive, and this result holds for the entire cross-section of beliefs. Second, when predicting short term interest rates, primary dealers display superior forecasting ability when compared to non-primary dealers. Third, we reject the null hypothesis that subjective expected bond returns are constant. When predicting long term rates, however, primary dealers have no information advantage. This suggests that a key source of variation in long-term bonds are risk premia and not short-term rate variation. Fourth, we show that consensus beliefs are not a sufficient statistics to describe the cross-section of beliefs. Moreover, the beliefs of the most accurate agents are those most spanned by a contemporaneous cross-section of bond prices. This supports equilibrium models and Friedman's market selection hypothesis. Finally, we use ex-ante spanned subjective beliefs to study predictions of several reduced-form and structural models and uncover a number of statistically significant relationships in favour of rational expectations.

Item Type: Oxford Saïd Research Paper
Keywords: Rational Expectations, Cross-Section of Beliefs, Bond Risk Premia, Spanning, Expectation Formation, finance
Subject(s): Finance
Date Deposited: 18 Jan 2017 16:53
Last Modified: 10 Feb 2017 10:03
Funders: n/a
URI: http://eureka.sbs.ox.ac.uk/id/eprint/6275

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