Challenging the spanning hypothesis at short horizons: Evidence from Norway

Abstract

The spanning hypothesis states that the yield curve reflects all available information about future yields. This paper challenges the hypothesis by investigating the predictive power of bond market order flow while controlling for principal components extracted from the current yield curve. The results show that order flows aggregated from interdealer trades in Norwegian government bonds can predict yield changes and excess returns both in‐sample and out‐of‐sample at the daily and weekly horizons. This suggests that bond dealers possess information about future bond yields that is not yet incorporated into the yield curve. Forecasts based on microstructure data can thus be valuable for short term investors.