Trading Bond Value
20 Pages Posted: 17 Apr 2020
Date Written: March 10, 2020
In out-of-sample trading tests, combined trading strategies based on the bond value model is able to raise the Sharpe ratio to 0.85, from the 0.78 achieved by a passive benchmark of 10-year government bonds equally weighted across 12 developed countries (US, Japan, Germany, UK, France, Italy, Canada, Switzerland, Sweden, Norway, Australia, and New Zealand). The paper also shows the bond value model to be robust against data revisions in the US. The paper includes tests of the trading model on both an absolute value and relative value basis. On an absolute value basis by itself the model raises the Share ratio 0.05 to 0.83. Also, using the model equilibrium yield as a counter signal to future changes in market yield allows one to achieve a Sharpe ratio of 0.84 on a 12-country average. The paper refers to this as “Model Mean Reversion.” Using both approaches on a 50/50 basis brings the Sharpe to 0.85. The paper also explores the use of a momentum factor by itself and in combination with the value models and finds no benefit. The paper provides evidence of the bond value model’s robustness for estimating equilibrium yields across major economies and also introduces a novel and potentially beneficial trading strategy in Model Mean Reversion.
Keywords: Trading Model, Bond Value, Global Bonds
JEL Classification: C10, G10, G11, G12
Suggested Citation: Suggested Citation