2020/07/12 by Mirco Rubin, Rubin, Mirco, Dario Ruzzi +1
Economics, Econometrics and Finance · #Affine term structure model #Bond #Bond market #Econometrics #Economics #Equity (law) #Equity risk #FOS: Economics and business #Finance #Financial Markets and Investment Strategies #Financial economics #Fixed income #General Finance (q-fin.GN) #Government bond #Insurance and Financial Risk Management #Monetary economics #Pricing of Securities (q-fin.PR) #Stochastic processes and financial applications #Tail risk #Treasury #Valuation (finance) #Volatility (finance) #Yield curve #q-fin.GN #q-fin.PR
paper · pdf · doi:10.48550/arxiv.2007.05933
published in RePEc: Research Papers in Economics (Federal Reserve Bank of St. Louis)
arxiv created 2020/07/12 · openalex publication_date 2020/07/12 · arxiv updated 2020/07/14 · openalex created_date 2025/10/10 · openalex updated_date 2026/08/05
This paper quantifies the effects of equity tail risk on the US government bond market. We estimate equity tail risk with option-implied stock market volatility that stems from large negative price jumps, and we assess its value in reduced-form predictive regressions for Treasury returns and a term structure model for interest rates. We find that the left tail volatility of the stock market significantly predicts one-month excess returns on Treasuries both in- and out-of-sample. The incremental value of employing equity tail risk as a return forecasting factor can be of economic importance for a mean-variance investor trading bonds. The estimated term structure model shows that equity tail risk is priced in the US government bond market and, consistent with the theory of flight-to-safety, Treasury prices increase when the perception of tail risk is higher. Our results concerning the predictive power and pricing of equity tail risk extend to major government bond markets in Europe.