Nonlinearity and flight to safety in the risk-return trade-off for stocks and bonds

Tobias Adrian, Richard Crump and Erik Vogt

No 723, Staff Reports from Federal Reserve Bank of New York

Abstract: We document a highly significant, strongly nonlinear dependence of stock and bond returns on past equity market volatility as measured by the VIX. We propose a new estimator for the shape of the nonlinear forecasting relationship that exploits additional variation in the cross section of returns. The nonlinearities are mirror images for stocks and bonds, revealing flight to safety: expected returns increase for stocks when volatility increases from moderate to high levels, while they decline for Treasury securities. These findings provide support for dynamic asset pricing theories where the price of risk is a nonlinear function of market volatility.

Keywords: flight to safety; risk-return trade-off; dynamic asset pricing; volatility; nonparametric estimation and inference; intermediary asset pricing; asset management (search for similar items in EconPapers)
JEL-codes: G01 G12 G17 (search for similar items in EconPapers)
Date: 2015-04-01
New Economics Papers: this item is included in nep-fmk
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Citations: View citations in EconPapers (24)

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Related works:
Journal Article: Nonlinearity and Flight‐to‐Safety in the Risk‐Return Trade‐Off for Stocks and Bonds (2019)
Working Paper: Nonlinearity and Flight-to-Safety in the Risk-Return Tradeoff for Stocks and Bonds (2016)
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