Diversifying Risks in Bond Portfolios: A Cross-border Approach

Sun, David and Tsai, Shih-Chuan (2013): Diversifying Risks in Bond Portfolios: A Cross-border Approach.

Abstract

This study recalibrates corporate bond idiosyncratic risks in an international context. Applying a statistically powerful risk decomposition scheme, we show in this study that diversification is improved by the addition of a global risk benchmark. We build a long-run stationary yield spread decomposition scheme which provides better diversification effect. In addition to global liquidity and default risk factors, we also include country-specific default risk component, and all of them are free of measurement or availability issues. The idiosyncratic risk component is estimated as a fixed effect along with all the parameter estimates, rather than separately from an exogenous generating process. Our linear model is simple, yet it can be easily and promptly applied by practitioners.

• Item Type: MPRA Paper
• Language: English
• Keywords: bond pricing; credit spread; systematic risk; diversification; global risk; heterogeneous panel; pooled mean group.
• Subjects: F - International Economics > F3 - International Finance > F34 - International Lending and Debt Problems; F - International Economics > F6 - Economic Impacts of Globalization > F65 - Finance; G - Financial Economics > G1 - General Financial Markets > G12 - Asset Pricing ; Trading Volume ; Bond Interest Rates; G - Financial Economics > G1 - General Financial Markets > G15 - International Financial Markets

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