Tail Risk in Fixed-Income Markets
97 Pages Posted: 18 Nov 2013 Last revised: 23 Jan 2016
Date Written: April 16, 2015
Abstract
The importance of tail risk for asset pricing has been widely recognized in the literature and extensively studied for equity markets empirically. We construct one of the first model-free measures of tail risk for fixed-income markets using a proprietary dataset of swaptions, denoted as TAIL, which captures tail risk at different horizons and in recessional states with high or low interest rates. We show that TAIL has strong predictive power for returns on Treasury bonds, corporate bonds, mortgage-backed securities, fixed-income hedge funds, and even equities, suggesting that interest rate tail risk is universally priced in all major financial markets. We also find strong links between TAIL and economic fundamentals.
Keywords: Fixed-income, Swaption, Tail risk
JEL Classification: G12, G13
Suggested Citation: Suggested Citation
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