Journal of Banking & Finance 36 (2012) 2216–2232
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Journal of Banking & Finance
journal homepage: www.elsevier.com/locate/jbf
Are corporate bond market returns predictable?
Yongmiao Hong a,b, Hai Lin c,d, Chunchi Wu e,⇑
Department of Economics, Cornell University, Ithaca, NY 14853, USA Wang Yanan Institute for Studies in Economics and MOE Key Laboratory in Econometrics, Xiamen University, Xiamen 361005, China c Department of Accountancy and Finance, University of Otago, Dunedin 9054, New Zealand d School of Economics and Finance, Victoria University of Wellington, Wellington 6140, New Zealand e School of Management, State University of New York at Buffalo, Buffalo, NY 14260, USA b
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This paper examines the predictability of corporate bond returns using the transaction-based index data for the period from October 1, 2002 to December 31, 2010. We ﬁnd evidence of signiﬁcant serial and cross-serial dependence in daily investment-grade and high-yield bond returns. The serial dependence exhibits a complex nonlinear structure. Both investment-grade and high-yield bond returns can be predicted by past stock market returns in-sample and out-of-sample, and the predictive relation is much stronger between stocks and high-yield bonds. By contrast, there is little evidence that stock returns can be predicted by past bond returns. These ﬁndings are robust to various model speciﬁcations and test methods, and provide important implications for modeling the term structure of defaultable bonds. Ó 2012 Elsevier B.V. All rights reserved.
Article history: Received 8 July 2011 Accepted 1 April 2012 Available online 6 April 2012 JEL classiﬁcation: G12 G14 G17 Keywords: Return predictability Generalized spectrum Autocorrelation Causality Nonlinearity Bond pricing Market efﬁciency
1. Introduction One of the most enduring issues in ﬁnance and economics is the question of whether returns on risky assets are predictable. This important issue has been the focus of an extensive literature on asset prices dating back more than a century. Despite an enormous amount of past efforts, whether future asset price changes can be meaningfully predicted is still a subject of ongoing debates and intensive empirical research (see, for example, Ang and Bekaert, 2007; Campbell and Thompson, 2008; Welch and Goyal, 2008; Rapach et al., 2010; Sekkel, 2011).1 The literature of asset return predictability has focused on the stock market. There is substantial evidence that stock returns are predictable, either by past price changes or economic variables (see Campbell et al., 1997; Ang and Bekaert, 2007; Campbell and Thompson, 2008; Rapach et al., 2010). Recent efforts have been directed to identifying the predictive components of asset returns at different return horizons, evaluating the predictive power of ⇑ Corresponding author. Tel.: +1 716 645 0448; fax: +1 716 645 3823. E-mail addresses: email@example.com (Y. Hong), firstname.lastname@example.org (H. Lin), email@example.com (C. Wu). 1 See also Kessler and Scherer (2009) and Fan et al. (2012). 0378-4266/$ - see front matter Ó 2012 Elsevier B.V. All rights reserved. http://dx.doi.org/10.1016/j.jbankﬁn.2012.04.001
predictors using more robust tests, and determining how much predictability is compatible with efﬁciency consistent with risk-based asset pricing models. Notwithstanding extensive research on equity return predictability, there are only a few studies on corporate bond return predictability (see Keim and Stambaugh, 1986; Kwan, 1996; Hotchkiss and Ronen, 2002; Downing et al., 2009) and empirical evidence is inconclusive. Kwan (1996) shows that signiﬁcant negative contemporaneous correlation exists between returns of individual stocks and yield changes of bonds issued by the same ﬁrm, and that stock returns predict future bond yield changes. Unlike Kwan (1996) and Hotchkiss and Ronen (2002) ﬁnd that...
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