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In Search of Systematic Risk and the Idiosyncratic Volatility Puzzle in the Corporate Bond Market

Jennie Bai, Turan G. Bali, Quan Wen

NBER Working Paper No. 25995
Issued in June 2019
NBER Program(s):The Asset Pricing Program

We propose a comprehensive measure of systematic risk for corporate bonds as a nonlinear function of robust risk factors and find a significantly positive link between systematic risk and the time-series and cross-section of future bond returns. We also find a positive but insignificant relation between idiosyncratic risk and future bond returns, suggesting that institutional investors dominating the bond market hold well-diversified portfolios with a negligible exposure to bond-specific risk. The composite measure of systematic risk also predicts the distribution of future market returns, and the systematic risk factor earns a positive price of risk, consistent with Merton's (1973) ICAPM.

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Document Object Identifier (DOI): 10.3386/w25995

 
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