Working Paper presents research work by both Danmarks Nationalbank’s employees and our partners. The series is primarily targeted at professionals and people with an interest in central banking research as well as economics and finance in a broader sense.
Does duration extension enhance excess returns?
Many financial institutions voluntarily undertake additional interest rate exposure, due to their short-term funding and the placements of their assets in longer term bonds. Based on realised total bond returns of the major bond markets this paper assesses whether a fixed-income investor is actually rewarded by taking this additional interest rate risk. Unfortunately, the question raised in the title of this article can not clearly be anwered. The outcome of the empirical analysis has shown that returns, return volatilities and their correlations are time-varying. However, some investment policy implications and conclusions can be stated, but caution is warranted when interpreting the empirical findings.