Common Risk Factors in the Cross-Section of Corporate Bond Returns

75 Pages Posted: 3 Oct 2016 Last revised: 12 Feb 2018

See all articles by Jennie Bai

Jennie Bai

Georgetown University - Department of Finance

Turan G. Bali

Georgetown University - Robert Emmett McDonough School of Business

Quan Wen

Georgetown University - Department of Finance

Date Written: February 2018

Abstract

We investigate the cross-sectional determinants of corporate bond returns and find that downside risk is the strongest predictor of future bond returns. We also introduce common risk factors based on the prevalent risk characteristics of corporate bonds -- downside risk, credit risk, and liquidity risk -- and find that these novel bond factors have economically and statistically significant risk premia that cannot be explained by long-established stock and bond market factors. We show that the newly proposed risk factors outperform all other models considered in the literature in explaining the returns of the industry- and size/maturity-sorted portfolios of corporate bonds.

Keywords: corporate bond, risk factors, downside risk, credit risk, liquidity risk

JEL Classification: G10, G11, C13

Suggested Citation

Bai, Jennie and Bali, Turan G. and Wen, Quan, Common Risk Factors in the Cross-Section of Corporate Bond Returns (February 2018). HKUST Finance Symposium 2016: Active Investing and Arbitrage Capital; Journal of Financial Economics, Forthcoming; HKUST Finance Symposium 2016: Active Investing and Arbitrage Capital. Available at SSRN: https://ssrn.com/abstract=2819910 or http://dx.doi.org/10.2139/ssrn.2819910

Jennie Bai

Georgetown University - Department of Finance ( email )

3700 O Street, NW
Washington, DC 20057
United States

HOME PAGE: http://www.jenniebai.com

Turan G. Bali (Contact Author)

Georgetown University - Robert Emmett McDonough School of Business ( email )

3700 O Street, NW
Washington, DC 20057
United States
(202) 687-5388 (Phone)
(202) 687-4031 (Fax)

HOME PAGE: http://faculty.msb.edu/tgb27/

Quan Wen

Georgetown University - Department of Finance ( email )

37th and O Street, NW
Washington D.C., DC 20057
United States

HOME PAGE: http://faculty.georgetown.edu/qw50

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