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The market demand for the Treasury Inflation‐Protected Securities (TIPS) is rather small. This is puzzling, as we show that an agent, who derives utility from real wealth and dynamically invests into multiple asset classes over a 30‐year horizon, incurs a certainty equivalent loss of 1.6% per annum from not investing in inflation‐indexed bonds. However, if the investor suffers from money illusion, the perceived loss is only 0.5% per annum. Furthermore, the perceived loss is totally negligible for an unsophisticated money‐illusioned investor ignoring the time variation of risk premia. Money illusion causes significant portfolio shifts from inflation‐indexed toward nominal bonds, with little effects on equity allocations, contributing to the low market demand for TIPS. [ABSTRACT FROM AUTHOR]

Copyright of Brazilian Business Law Journal / Administração de Empresas em Revista is the property of Administracao de Empresas em Revista and its content may not be copied or emailed to multiple sites or posted to a listserv without the copyright holder's express written permission. However, users may print, download, or email articles for individual use. This abstract may be abridged. No warranty is given about the accuracy of the copy. Users should refer to the original published version of the material for the full abstract. (Copyright applies to all Abstracts.)

Copyright of Research Papers of the Wroclaw University of Economics / Prace Naukowe Uniwersytetu Ekonomicznego we Wroclawiu is the property of Uniwersytet Ekonomiczny we Wroclawiu and its content may not be copied or emailed to multiple sites or posted to a listserv without the copyright holder's express written permission. However, users may print, download, or email articles for individual use. This abstract may be abridged. No warranty is given about the accuracy of the copy. Users should refer to the original published version of the material for the full abstract. (Copyright applies to all Abstracts.)

A new type of retirement bond is proposed called an SM bond. SM bonds are long dated government bonds divisible into two parts: a survivorship (S) part and a mortality (M) part. Each SM bond is associated with a particular age. SM bonds associated with a particular age are only purchasable by (originators) of that age. The SM bond is then splittable into an S and M component. The S part must be retained by the originator, who receives the face value of the bond if he/she is alive at maturity. For originators who die prior to the maturity date, the maturity value of the SM bond is assigned to a mortality pool. The holder of the M part of the bond receives the annual bond coupon, and at maturity a pro rata share of the mortality pool. M bonds are tradable: holders can sell their M bonds to anyone, at any time. It is envisaged different age bonds are issued every year for ages say 30–64 each with say a 35‐year term. The market will be regularly informed about the mortality experience, and the market price of the M bonds will vary over time to reflect that experience. [ABSTRACT FROM AUTHOR]

Researchers who estimate affine term structure models often impose overidentifying restrictions (restrictions on parameters beyond those necessary for identification) for a variety of reasons. While some of those restrictions seem to have minor effects on the extracted factors and some measures of risk premia, such as the forward risk premium, they may have a large impact on other measures of risk premia that is often ignored. In this paper, we analyze how apparently innocuous overidentifying restrictions imposed on affine term structure models can lead to large differences in several measures of risk premiums. [ABSTRACT FROM AUTHOR]

I decompose inflation risk into (i) a component that is correlated with factors that determine investors' preferences and investment opportunities and real returns on real assets with risky cash flows (stocks, corporate bonds, real estate, commodities, etc.), and (ii) a residual inflation risk component. In equilibrium, only the first component earns a risk premium. Therefore, investors should avoid exposure to the residual component. All nominal bonds, including money-market accounts, have constant nominal cash flows, and thus their real returns are equally exposed to residual inflation risk. In contrast, inflation-protected bonds provide a means to avoid cash flow and residual inflation risk. Hence, every investor should put 100% of her wealth in real assets (inflation-protected bonds, stocks, corporate bonds, real estate, commodities, etc.) and finance every long/short position in nominal bonds with an equal amount of other nominal bonds or by borrowing/lending cash; that is, investors should hold a zero-investment portfolio of nominal bonds and cash. This paper was accepted by Neng Wang, finance. [ABSTRACT FROM AUTHOR]

In fixed income markets, volatility is unspanned if volatility risk cannot be hedged with bonds. We first show that all affine term structure models with state space RM+ × RN-M can be drift normalized and show when the standard variance normalization can be obtained. Using this normalization, we find conditions for a wide class of affine term structure models to exhibit unspanned stochastic volatility (USV). We show that the USV conditions restrict both the mean reversions of risk factors and the cross section of conditional yield volatilities. The restrictions imply that previously studied affine USV models are unlikely to be able to generate the observed cross section of yield volatilities. However, more general USV models can match the cross section of bond volatilities. [ABSTRACT FROM AUTHOR]

Existing results show that (i) lagged forward rates help predict bond returns and (ii) modern Markovian dynamic term structure models (DTSMs) cannot match the evidence [Cochrane JH, Piazzesi M (2005) Bond risk premia. Amer. Econom. Rev.95(1): 138-160]. We develop the family of conditional mean DTSMs where the dynamics depend on current yields and their history through a moving-average component. Our preferred conditional mean model combines one moving average with the usual three Gaussian risk factors, closely matches the bond risk premium measured from predictive regressions, and provides better forecasts of bond returns. Our framework nests Duffee's models with a small "hidden" factor [Duffee G (2011) Information in (and not in) the term structure. Rev. Financial Stud.24(9):2895-2934], and our results compare favorably with his five-factor model. Conditional mean models are easier to estimate than state-space term structure models based on Kalman estimates of latent factors. [ABSTRACT FROM AUTHOR]

In this paper, we develop a portfolio optimization method to maximize the performance of a fixed income portfolio. To achieve this aim, we define a two-step optimization problem where we firstly manage the immunization risk and then we maximize the portfolio wealth in a reward-risk framework. In the first optimization step, we create funds of bonds with constant immunization measure over time, and we propose an innovative immunization measure for bond portfolio management that leads to a more flexible immunization approach and a better trade-off between reward and risk. In the second optimization step, maximizing two performance measures on these baskets of bonds we obtain portfolio strategies that consider different investors' profiles. An empirical application to the US fixed income market during 2002-2012 period is provided. Applying the portfolio optimization method to different bond classes, we compare the results with an equity index. This ex-post analysis indicates the benefits of the proposed portfolio strategy in outperforming the benchmark and proves that capital flows to safer markets during crisis periods. [ABSTRACT FROM AUTHOR]

Stunningly low global long-term bond yields provide some credence to a secular stagnation view of the world. We present an analytical framework - culminating in a simple scorecard - for assessing the extent to which purported drivers and manifestations of secular stagnation match global economic and financial developments and we compare with a complementary narrative focusing on balance sheet boom and bust. We find some support for each, but think global rates will not stay as low for as long as markets price in., Larry Summers has used the term to refer to a situation where demand and supply for savings deliver very low equilibrium real interest rates. The bulge in middle-aged savers, falling prices of investment goods, and flows of savings 'uphill' from emerging markets may have all led to real rates trending much lower in recent decades., Another version of the story is that slow technical progress depresses demand for borrowing, and pushes down on real rates. This is less compelling, and based more on anecdote than anything else. There are as many reasons to be optimistic, as pessimistic, about the supply side., There are holes in the secular stagnation narrative. Until very recently, G7 savings rates have trended down rather than up, partly because of another decades-long trend of financial innovation. Furthermore, few economists, nor the Fed or the BoE, expect policy rates in the US or UK to stay low for as long as is priced in to markets., A complementary narrative would stress the role of the credit-fuelled mega-boom and subsequent balance sheet blow out and Great Recession, and then the long road to financial repair. This is more consistent with the path of savings rates over recent decades, and the policy response - including QE - can explain much of the rest., We see the two explanations as complementary and reinforcing. In global terms, they appear no better or worse than each other. Comparing across countries, Japan comes closest to resembling secular stagnation, followed by EZ, US and UK, according to our scorecard., We think ultra-low long rates will not be borne out by the future path of short rates, but acknowledge a significant risk they might, for example, if monetary policy remains too tight on average because of zero bound effects on interest rates and limited scope for fiscal accommodation. [ABSTRACT FROM AUTHOR]