GDP-Linked Bonds as a New Asset Class

40 Pages Posted: 22 Jun 2020 Last revised: 8 Nov 2022

See all articles by Ellie Papavassiliou

Ellie Papavassiliou

Athens University of Economics and Business - Department of International and European Economic Studies

Nikolas Topaloglou

Athens University of Economics and Business

Stavros A. Zenios

University of Cyprus; Bruegel; University of Pennsylvania - Wharton Financial Institutions Center; Cyprus Academy of Sciences, Letters, and Arts

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Date Written: May 27, 2020

Abstract

We show that GDP-linked bonds can provide diversification benefits to investors. We use a stochastic spanning methodology which makes no assumptions on the distributional characteristics of the returns of these innovative instruments and apply to test both floaters and linkers. We find that both types of GDP-linked bonds are not spanned by a benchmark set of stocks, bonds, and cash assets, thus providing a new asset class. Spanning is ruled out for a wide and reasonable range of bond design parameters. In out-of-sample testing we find significant diversification benefits for investors, with strongly statistically significant increases in Sharpe ratios in the range 0.10-0.43 for floaters and 0.05-0.17 for linkers over an optimal benchmark portfolio. The results for linkers depend on the risk premium that these instruments will trade, while floaters are less sensitive to the premium, but the benefits remain for the range of premia estimated in existing literature. Our finding are further explained by documenting the finance and macro factors that drive the performance of GDP-linked bonds, using generalized method of moments regressions.

Keywords: Stochastic Spanning, Contingent Debt, Risk Premium, Diversification

JEL Classification: C61, C63, G11, G13, H63

Suggested Citation

Papavassiliou, Ellie and Topaloglou, Nikolas and Zenios, Stavros A., GDP-Linked Bonds as a New Asset Class (May 27, 2020). Available at SSRN: https://ssrn.com/abstract=3611636 or http://dx.doi.org/10.2139/ssrn.3611636

Ellie Papavassiliou

Athens University of Economics and Business - Department of International and European Economic Studies ( email )

28is Oktovriou 76
GR-10434 Athens
Greece

Nikolas Topaloglou

Athens University of Economics and Business ( email )

76, Patision street
Athens, GR10434
Greece

Stavros A. Zenios (Contact Author)

University of Cyprus ( email )

75 Kallipoleos Street
P.O. Box 20537
Nicosia CY-1678
Cyprus
+357 2 893605 (Phone)

HOME PAGE: http://https://www.researchgate.net/profile/Stavros_Zenios

Bruegel ( email )

Rue de la Charité 33
B-1210 Brussels Belgium, 1210
Belgium

University of Pennsylvania - Wharton Financial Institutions Center ( email )

3733 Spruce Street
Philadelphia, PA 19104-6374
United States

HOME PAGE: http://zenios.wordpress.com

Cyprus Academy of Sciences, Letters, and Arts ( email )

Nicosia
Cyprus

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