Time-Varying Risk of Nominal Bonds : How Important Are Macroeconomic Shocks?

I analyze the risk of nominal assets within an external habit model supplemented with realistic non-Gaussian macroeconomic dynamics. The estimation identifies time-varying "demand-like" and "supply-like" macroeconomic shocks directly linked to the risk of nominal assets. After matching standard properties of the US financial markets, I investigate if macroeconomic shocks can reproduce time-varying stock and bond return correlations. Macroeconomic shocks generate sizable positive and negative correlations, although negative correlations are less extreme than in data. Macroeconomics shocks are most important in explaining high correlations from the late 70's until the early 90's and low correlations pre- and during the Great Recession