Sources of Momentum in Bonds

53 Pages Posted: 15 May 2012

See all articles by Hwagyun Kim

Hwagyun Kim

Texas A&M University - Mays Business School

Arvind Mahajan

Texas A&M University - Department of Finance

Alex Petkevich

The University of Toledo - Department of Finance

Date Written: May 7, 2012

Abstract

This paper documents that momentum profits in corporate bonds prevail during weakening aggregate credit conditions, and are driven by losers. Consistent with this, we find that a conditional default factor explains the cross-section returns of corporate bond portfolios sorted by past performance. Based on the evidence, we develop a model connecting bond momentum returns to the ability of bondholders to recover value when firms default. Specifically, we propose that firms with more (less) intangible capital and growth options are more (less) costly to liquidate and, therefore, they have lower (higher) recovery value. In this case, the bond momentum can exist, because the “recovery premium” becomes more important when firm default becomes highly probable. We provide strong empirical support to these predictions. Related, the U.S. government bonds display no momentum, yet it emerges in sovereign bond returns. Time-varying aggregate default shocks and firm characteristics determining the growth and liquidation of issuers are the main sources of momentum in bonds.

Keywords: Momentum, Bonds, Aggregate Default Shocks, Recovery.

JEL Classification: G11, G12

Suggested Citation

Kim, Hwagyun and Mahajan, Arvind and Petkevich, Alex, Sources of Momentum in Bonds (May 7, 2012). Mays Business School Research Paper No. 2012-40. Available at SSRN: https://ssrn.com/abstract=2054711 or http://dx.doi.org/10.2139/ssrn.2054711

Hwagyun Kim (Contact Author)

Texas A&M University - Mays Business School ( email )

430 Wehner
College Station, TX 77843-4218
United States

Arvind Mahajan

Texas A&M University - Department of Finance ( email )

430 Wehner
College Station, TX 77843-4218
United States
979-845-4876 (Phone)

Alex Petkevich

The University of Toledo - Department of Finance ( email )

2801 W. BANCROFT ST.
Mail Stop 103
Toledo, OH Ohio 43606
United States

HOME PAGE: http://homepages.utoledo.edu/apetkev

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