Time-varying risk of nominal bonds: How important are macroeconomic shocks?

Ermolov, Andrey

doi:10.1016/j.jfineco.2022.04.003

Cited by 15 publications

(3 citation statements)

References 69 publications

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“…Baele et al (2010) show that the stock-bond return correlation shifts from sizably positive to predominantly negative in late 1997; they suggest an increased flight-to-quality role for T-bonds. Consistent with the observed 1997 shift in the stock-bond return correlation, Ermolov (2018) presents evidence that consumption and inflation shocks can generate both positive and negative stock-bond return correlations. Connolly et al (2021) find that the predominant dynamic relation between VIX and Treasury yields shifted from reliably negative to reliably positive in late 1997.…”

Section: Justification Of Our Pre-1997 Versus Post-1997 Analysissupporting

confidence: 71%

Stock returns and inflation shocks in weaker economic times

Connolly

Stivers

Sun

2021

Financial Management

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We show that the concurrent relation between quarterly stock returns and inflation shocks is economically and robustly significant only over weaker economic (WE) times, strongly negative prior to the late 1990s, and strongly positive afterwards. Conversely, in the stronger economic times over our 1981 to 2017 sample, this stock-inflation relation is relatively much smaller and usually marginally negative. Our evidence suggests a role for two complementary channels. First, we find consistent state-dependent patterns in how inflation shocks are related to expected economic growth and the equity risk premium, indicating that inflation nonneutrality is stronger over WE times. Second, our findings imply that the inflation signal about the underlying economic state intensifies during WE times, due to the elevated economic-state uncertainty then. We also contribute by contrasting subjective (survey-based) versus objective inflation shocks and by evaluating the relation between inflation shocks and forward equity yields.

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Section: Justification Of Our Pre-1997 Versus Post-1997 Analysissupporting

confidence: 71%

Stock returns and inflation shocks in weaker economic times

Connolly

Stivers

Sun

2021

Financial Management

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“…In all these papers, however, asset price data is used to calibrate or estimate the model. Ermolov (2018) estimates an external habit model with macroeconomic data only, but his explanation of time variation in the stock-bond correlation is very different from ours. He assumes that consumption and inflation can be hit by two different shocks labeled as supply and demand shocks, whereas we rely on different regimes for expected growth rates.…”

Section: Introductionmentioning

confidence: 62%

“…A high average inflation state like State 3 in our model could only be justified by a sequence of very large supply shocks. In a recent paper, Ermolov (2018) incorporates this reasoning of demand versus supply shocks and the resulting timevarying comovement of realized consumption growth and inflation in an asset pricing model with habit formation preferences.…”

Section: Macroeconomic Interpretationmentioning

confidence: 99%

Extreme Inflation and Time-Varying Expected Consumption Growth

2023

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In a parsimonious regime switching model, we find strong evidence that expected consumption growth varies over time. Adding inflation as a second variable, we uncover two states in which expected consumption growth is low, one with high and one with negative expected inflation. Embedded in a general equilibrium asset pricing model with learning, these dynamics replicate the observed time variation in stock return volatilities and stock-bond return correlations. They also provide an alternative derivation for a measure of time-varying disaster risk suggested by Watcher [ Wachter J (2013) Can time-varying risk of rare disasters explain aggregate stock market volatility? J. Finance 68(3):987–1035]. implying that both the disaster and the long-run risk paradigm can be extended toward explaining movements in the stock-bond correlation. This paper was accepted by Kay Giesecke, finance.

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