Short-Rate Expectations and Unexpected Returns in Treasury Bonds

Review of Financial Studies, Forthcoming

77 Pages Posted: 28 Mar 2013 Last revised: 4 May 2018

See all articles by Anna Cieslak

Anna Cieslak

Duke University - Fuqua School of Business; National Bureau of Economic Research (NBER)

Date Written: September 30, 2017

Abstract

I document large and persistent errors in investors' expectations about the short-term interest rate over the business cycle. The largest errors arise in economic downturns and during Fed easings when investors overestimate future short rates and, thus, underestimate future bond returns. At a one-year horizon, errors about the path of the real rate (as opposed to inflation) account for 80% of short-rate forecast error variance, with more than half of that number attributed to the Fed easing more aggressively than the public expected. Short-rate forecast errors induce ex post predictability of excess returns on Treasury bonds that is not due to time-varying risk premium.

Keywords: short-rate expectations, forecast errors, bond risk premia, real rate, predictability

JEL Classification: G12, G14, G17

Suggested Citation

Cieslak, Anna, Short-Rate Expectations and Unexpected Returns in Treasury Bonds (September 30, 2017). Review of Financial Studies, Forthcoming, Available at SSRN: https://ssrn.com/abstract=2239725 or http://dx.doi.org/10.2139/ssrn.2239725

Anna Cieslak (Contact Author)

Duke University - Fuqua School of Business ( email )

Box 90120
Durham, NC 27708-0120
United States
919 660 7879 (Phone)

HOME PAGE: https://sites.google.com/site/ancieslak/

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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