Heterogeneous Expectations and Bond Markets

40 Pages Posted: 3 Jan 2007 Last revised: 11 Nov 2010

See all articles by Hongjun Yan

Hongjun Yan

DePaul University

Wei Xiong

Princeton University - Department of Economics; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: May 2009


This paper presents a dynamic equilibrium model of bond markets in which two groups of agents hold heterogeneous expectations about future economic conditions. The heterogeneous expectations cause agents to take speculative positions against each other and therefore generate endogenous relative wealth fluctuation. The relative wealth fluctuation amplifies asset price volatility and contributes to the time variation in bond premia. Our model shows that a modest amount of heterogeneous expectation can help explain several puzzling phenomena, including the "excessive volatility" of bond yields, the failure of the expectations hypothesis, and the ability of a tent-shaped linear combination of forward rates to predict bond returns.

Keywords: bond markets, heterogeneous expectations, yield curve, bond yield volatility

Suggested Citation

Yan, Hongjun and Xiong, Wei, Heterogeneous Expectations and Bond Markets (May 2009). Review of Financial Studies, Forthcoming, Yale ICF Working Paper No. 06-35, Available at SSRN: https://ssrn.com/abstract=954767

Hongjun Yan

DePaul University ( email )

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Chicago, IL 60604
United States

HOME PAGE: http://sites.google.com/site/hongjunyanhomepage/

Wei Xiong (Contact Author)

Princeton University - Department of Economics ( email )

Princeton, NJ 08544-1021
United States

National Bureau of Economic Research (NBER)

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Cambridge, MA 02138
United States

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