An Empirical Decomposition of Risk and Liquidity in Nominal and Inflation-Indexed Government Bonds

OMI Seminar Series

This paper decomposes inflation-indexed and nominal government bond excess return pre­dictability into liquidity, real interest rate risk and inflation risk. We estimate a systematic liquidity premium in Treasury Inflation Protected Securities (TIPS) yields relative to nom­inal yields. The liquidity premium is around 30 bps during normal times but larger during the early years of TIPS and during the financial crisis 2008-2009. We find that time-varying liquidity premia in TIPS and time-varying inflation risk premia in nominal bonds generate return predictability. We find no evidence that shocks to relative issuance generate bond return predictability in the US or UK.

Location:
Speaker(s):

Luis Viceira (Harvard Business School)

Date:
Thursday, May 3, 2012 - 12:30
to 13:30