Inflation and the Role of Bonds in Investor Portfolios

Abstract

This paper explores both theoretically and enirically the role of nominal bonds of various maturities in investor portfolios in the U.S. One of its principal goals is to determine whether an investor who is constrained to limit his investment in bonds to a single portfolio of money-fixed debt instruments will suffer a serious welfare loss. Our interest in this question stems in part from the observation that many employer-sponsored savings plans limit a participant's investment choices to two types, a common stock fund and a moneyfixed bond fund of a particular maturity. A second goal is to study the desirability and feasibility of introducing a market for index bonds (i.e. an asset offering a riskiess real rate of return) in the U.S. capital markets.The theoretical framework is Merton's (1971) continuous time model of consumption and portfolio choice. Our measure of the welfare gain or loss from a given change in the investor's opportunity set is the increment to current wealth needed to completely offset the effect of the change. A novel feature of our empirical approach is the method of deriving equilibrium risk premia on the various asset classes. We employ the variance-covariance matrix of real rates of return estimated from historical data in combination with "reasonable" assumptions about net asset supplies and the econonbr_wide average degree of risk aversion to derive numerical values for these risk premia. This procedure allows us to circumvent the formidable estimation problems associated with using historical means, which are negative during some subperiods.Our main results are: (i) There can be a substantial loss in welfare for participants in savings plans offering a choice of only two funds, a diversified stock fund and an intermediate-term bond fund. !bst of this loss can be eliminated by introducing as a third option a money market fund. (2) The potential welfare gain from the introduction of private index bonds in the U.S. capital market is probably not large enough to justify the costs of innovation. The major reason for the swall gain is that one month bills with their small variance of real returns are an effective substitute for index bonds.

Is Pakistan Stock Market Moving Towards Weak-Form Efficiency? Evidence from the Karachi Stock Exchange and the Random Walk Nature of Free-Float of Shares of KSE 30 Index.

“…Weak-form efficiency assumes that present security prices reflect all the historical information of past prices, past volume and past returns (Bodie, Kane & Marcus, 2007). Thus, future prices cannot be predicted by looking at past information as it has already been incorporated in current prices.…”

Correlation of financial markets in times of crisis

“…That is a compelling reason to believe that it represents a global market that is the result of the interactions of all local markets, or may also be the result of external news on the market as a whole. In terms of portfolio theory, as stated by Markowitz' ideas [156], [157], the eigenvector corresponding to the largest eigenvalue represents the riskier portfolio one may build, as most of the indices vary in the same way. In constrast, some of the smaller eigenvectors represent portfolios with less risk, as, for example, eigenvector e 1 , which basically consists on "buying" S&P 500 (USA) and S&P TSX (Canada) and "short-selling" Nasdaq (USA), which are three very closely connected indices.…”

Lietuvos pinigų ir kapitalo rinkų tarpusavio sąveiką lemiančių veiksnių analizė

“…Mokslinėje literatūroje straipsnio problema nėra išsa-miai išnagrinėta, užsienio ir Lietuvos autoriai detaliai teoriš-kai ir empiriškai nagrinėja kapitalo ar pinigų rinkas atskirai, jų tarpusavio sąveiką, analizės ir prognozavimo metodus ir modelius (Bailey 2006;Bodie et al 2005;Damodaran 2002;Girdzijauskas, Štreimikienė 2009;Jarrett, Schilling 2008;Liaw 2005;Obstfeld, Taylor 2005;Rutkauskas, Ramanauskas 2009 ir kt.). Veiksniai, darantys įtaką šių dviejų finansų rinkų segmentų tarpusavio sąryšiui, nėra gerai ištirti.…”