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Market fragility and the paradox of the recent stock-bond dissonance

Christos Koulovatianos (), Jian Li and Fabienne Weber

Economics Letters, 2018, vol. 162, issue C, 162-166

Abstract: After the Lehman-Brothers collapse, the stock index has exceeded its pre-Lehman-Brothers peak by 36% in real terms. Seemingly, markets have been demanding more stocks instead of bonds. Yet, instead of observing higher bond rates, paradoxically, bond rates have been persistently negative after the Lehman-Brothers collapse. To explain this paradox, we suggest that, in the post-Lehman-Brothers period, investors changed their perceptions on disasters, thinking that disasters occur once every 30 years on average, instead of disasters occurring once every 60 years. In our asset-pricing calibration exercise, this rise in perceived market fragility alone can explain the drop in both bond rates and price–dividend ratios observed after the Lehman-Brothers collapse, which indicates that markets mostly demanded bonds instead of stocks.

Keywords: Asset pricing; Disaster risk; Price–dividend ratio; Bond returns (search for similar items in EconPapers)
JEL-codes: G12 G01 E44 E43 (search for similar items in EconPapers)
Date: 2018
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