A Macro-Financial Analysis of the Euro Area Sovereign Bond Market

Dewachter, Hans; Iania, Leonardo; Lyrio, Marco; Sola, Maite de

doi:10.2139/ssrn.2456621

Cited by 28 publications

(39 citation statements)

References 61 publications

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“…First, our results provide support for the recent literature that aims at modelling the term structure of interest rates and the macroeconomy jointly to better understand the financial and debt crisis in the EA bond markets (i.e. Dewachter et al, 2014). Despite the crucial role of macroeconomic factors, the degree of heterogeneity in EA bond markets we found in this paper, however, warns against a limited number of macroeconomic variables as state variables in those term-structure models.…”

Section: Discussionsupporting

confidence: 82%

Bond Risk Premia, Macroeconomic Factors and Financial Crisis in the Euro Area

García

Werner

2015

SSRN Journal

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Standard-Nutzungsbedingungen:Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden.Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen.Sofern die Verfasser die Dokumente unter Open-Content-Lizenzen (insbesondere CC-Lizenzen) zur Verfügung gestellt haben sollten, gelten abweichend von diesen Nutzungsbedingungen die in der dort genannten Lizenz gewährten Nutzungsrechte. Terms of use: Documents in EconStor may AbstractThis paper investigates the power of macroeconomic factors to explain euro area bond risk premia using (i) a large dataset that captures the nowadays data-rich environment (ii) the Elastic Net variable selection. We find that macroeconomic factors, in particular economic activity and sentiment indicators, explain 40% of the variability of risk premia before the crisis, and up to 55% during the financial crisis, and both for core countries (from 40% to 60%) and periphery countries (from 35% to 44%). Moreover, macroeconomic factor models clearly outperform financial indicators like the CP-factor and credit default swap (CDS) premia, even in periods of significant market turbulence.JEL codes: E43, E44, G01, G12, C52, C55 We search for quantitative evidence on the extent to which macroeconomic factors are priced in in bond premia. To determine whether, when and by how much bond premia is related to price, economic activity, business sentiment or financial factors, or a combination of those, we employ the Elastic Net estimator (EN henceforth, Zou and Hastie, 2005), 1 a variable selection approach that helps overcome some specific challenges of euro area bond market data. First, we can evaluate a large number of potential determinants: 132 monthly macroeconomic indicators from nine macroeconomic groups, and, whenever possible, we also consider country-specific in addition to EA wide data (see the online appendix for details of our data and some additional results). Second, we can select observable factors based on their explanatory power for bond premia, which provides higher transparency and interpretability than principal components or other statistical techniques that instead summarise the information content of the explanatory variables (e.g. Stock and Watson 2002). Finally, the EN is particularly suitable for small sample analysis, which fits well with the short history of the EA and our goal of investigating the financial crisis impact.We first document the strong impact of the financial crisis on bond risk premia across 11 EA markets. We show that the fairly strong commonality in bond risk premia dynamics across euro area 1 The EN estimator belongs to a broad class of Least Angle Regression estimators (LARS) that are designed to rank the importance of every explanatory variable using a response vector (in our case excess returns) and help select a parsimonious model using a regularization parameter.ECB Wo...

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Section: Discussionsupporting

confidence: 82%

Bond Risk Premia, Macroeconomic Factors and Financial Crisis in the Euro Area

García

Werner

2015

SSRN Journal

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“…The sentiment index is a weighted average of five sectoral indexes, whose scores are gathered from surveys stating agents' assessment of the current economic situation and their expectations about future developments. As such, the sentiment index is used in the literature as a forward-looking variable capturing growth expectations (Monfort and Renne, 2013;Dewachter et al, 2015). Higher esi values signal lower credit risk and are therefore expected to result into lower spread levels.…”

Section: Methodsmentioning

confidence: 99%

“Whatever it takes” to resolve the European sovereign debt crisis? Bond pricing regime switches and monetary policy effects

Afonso

Arghyrou

Gadea

et al. 2018

Journal of International Money and Finance

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This paper investigates the role of unconventional monetary policy as a source of timevariation in the relationship between sovereign bond yield spreads and their fundamental determinants. We use a two-step empirical approach. First, we apply a time-varying parameter panel modelling framework to determine shifts in the pricing regime characterising sovereign bond markets in the euro area over the period January 1999 to July 2016. Second, we estimate the impact of ECB policy interventions on the time-varying risk factor sensitivities of spreads. Our results provide evidence of a new bond-pricing regime following the announcement of the Outright Monetary Transactions (OMT) programme in August 2012. This regime is characterised by a weakened link between spreads and fundamentals, but with higher spreads relative to the pre-crisis period and residual redenomination risk. We also find that unconventional monetary policy measures affect the pricing of sovereign risk not only directly, but also indirectly through changes in banking risk. Overall, the actions of the ECB have operated as catalysts for reversing the dynamics of the European sovereign debt crisis. JEL: E43, E44, F30, G01, G12Keywords: euro area, spreads, crisis, time-varying relationship, unconventional monetary policy Acknowledgements: We thankfully acknowledge financial support by FCT (Fundação para a Ciência e a Tecnologia, Portugal). FCT had no involvement in the study design, collection, analysis and interpretation of data, writing and submission of this research paper. M. Dolores Gadea acknowledges financial support from the Ministerio de Ciencia y Tecnologia, Spain, under grant ECO2011-30260-C03-02. We thank participants at the 6th UECE Conference on Economic and Financial Adjustments, 2017 (Lisbon) for very useful comments, and we are grateful to Mina Kazemi for valuable research assistance.

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“…To a more muted extent, the process involves also France; only Finland and the Netherlands are spared from it. In addition, over the most acute phase of the sovereign debt crisis, two phenomena characterise the euro-area (corporate and sovereign) bond market: the "flight to safety" effect, which tends to reduce the premium on German bonds, and the fear of a euro break-up (the so called redenomination risk), which starts to be priced in peripheral euro-area securities, further increasing yield spreads to Germany (Di Cesare et al 2012, Klose and Weigert 2014, Dewachter et al 2015.…”

Section: From Risk Premia To Fragmentationmentioning

confidence: 99%

Fragmentation and heterogeneity in the euro-area corporate bond market: Back to normal?

Zaghini

2016

Journal of Financial Stability

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We assess the degree of market fragmentation in the euro-area corporate bond market by disentangling the determinants of the risk premium paid on bonds at origination. By looking at over 2,400 bonds we are able to isolate the country-specific effects which are a suitable indicator of the market fragmentation. We find that, after peaking during the sovereign debt crisis, fragmentation shrank in 2013 and receded to pre-crisis levels only in 2014. However, the low level of estimated market fragmentation is coupled with a still high heterogeneity in actual bond yields, challenging the consistency of the new equilibrium.

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A Macro-Financial Analysis of the Euro Area Sovereign Bond Market

Cited by 28 publications

References 61 publications

Bond Risk Premia, Macroeconomic Factors and Financial Crisis in the Euro Area

Bond Risk Premia, Macroeconomic Factors and Financial Crisis in the Euro Area

“Whatever it takes” to resolve the European sovereign debt crisis? Bond pricing regime switches and monetary policy effects

Fragmentation and heterogeneity in the euro-area corporate bond market: Back to normal?

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