Managing Sovereign Credit Risk in Bond Portfolios

27 Pages Posted: 9 Nov 2011 Last revised: 23 Feb 2012

See all articles by Benjamin Bruder

Benjamin Bruder

Lyxor Asset Management

Pierre Hereil

affiliation not provided to SSRN

Thierry Roncalli

Amundi Asset Management; University of Evry

Date Written: October 15, 2011


With the recent development of the European debt crisis, traditional index bond management has been severely called into question. We focus here on the risk issues raised by the classical market-capitalization weighting scheme. We propose an approach to properly measure sovereign credit risk in a fixed-income portfolio. For that, we assume that CDS spreads follow a SABR process and we derive a sovereign credit risk measure based on CDS spreads and duration of portfolio bonds. We then consider two alternative weighting methods which are fundamental indexation and risk-based indexation. Fundamental indexation is based on GDP indexation whereas risk-based indexation uses a risk-budgeting approach based on our sovereign credit risk measure. We then compare all these methods in terms of risk, diversification and performance. We show that the risk-budgeting approach is the most appropriate scheme to manage sovereign risk in bond portfolios and gives very appealing results with respect to active management of bond portfolios.

Keywords: Sovereign credit risk, credit spread, convex risk measure, sabr model, CDS, bond indices, fundamental indexation, risk-based indexation, risk budgeting

JEL Classification: G11, C58, C60, H63

Suggested Citation

Bruder, Benjamin and Hereil, Pierre and Roncalli, Thierry, Managing Sovereign Credit Risk in Bond Portfolios (October 15, 2011). Available at SSRN: or

Benjamin Bruder

Lyxor Asset Management ( email )


Pierre Hereil

affiliation not provided to SSRN ( email )

Thierry Roncalli (Contact Author)

Amundi Asset Management ( email )

90 Boulevard Pasteur
Paris, 75015

University of Evry ( email )

Boulevard Francois Mitterrand
F-91025 Evry Cedex

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