Article1989

Expectations and Risk in the Treasury Bill Market: An Instrumental Variables Approach

47 citations0/0 files storedJournal of Financial and Quantitative Analysis

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Financial Markets and Investment Strategies Monetary Policy and Economic Impact Stochastic processes and financial applications

Abstract

This paper examines rational expectations in the Treasury bill market from 1961 to 1988 with a risk premium specified to be proportional to the volatility of excess returns using instrumental variables. From 1961 to 1972 and from 1972 to 1979, rational expectations cannot be rejected, and both the predictive power of the yield curve and the risk premium are highly significant. By contrast, with just a constant risk premium and with a risk premium proxied by moving averages of absolute interest rate changes, rational expectations are rejected for each subperiod, and the yield curve has significant predictive information only from 1972 to 1979.

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References

1987Estimating Time Varying Risk Premia in the Term Structure: The Arch-M Model 1985Stock Returns and the Term Structure 1984The information in the term structure 1983Forward Rates and Future Policy: Interpreting the Term Structure of Interest Rates 1988The econometric analysis of models with risk terms 1983Two-step two-stage least squares estimation in models with rational expectations 1984Do Long-Term Interest Rates Overreact to Short-Term Interest Rates?1976Forward rates as predictors of future spot rates

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1992The relationship between forecast dispersion and forecast uncertainty: Evidence from a survey data—arch model 1990Time Varying Term Premia and Traditional Hypotheses about the Term Structure 2007Macroeconomic Sources of Risk in the Term Structure 2010Revisiting the expectations hypothesis of the term structure of interest rates 2006Charter market default risk: A conceptual approach 2003

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