Risk Premiums in the JGB Market and Application to Investment Strategies

Abstract

This article reports empirical evidence of the bond risk premium in the JGB market and applies its findings to both duration-active and duration-neutral bond investment strategies in the JGB market. In the empirical study, an existence of the bond risk premium is proved, but it is also found that the magnitude of the risk premium is time-varying. This time–varying aspect of the bond risk premium is applied in a dynamic strategy that takes an active duration position based on a bind's excess return forecasts. Then, a rolling yield maximization strategy is backtested that takes a positive carry position in a duration–neutral environment relative to a benchmark.