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National Risk in Global Fixed Income Allocation

Journal of Fixed Income, September (1994): 17-26.

Claude Erb

First National Bank of Chicago, Chicago, IL 60670, USA

Campbell R. Harvey

Duke University, Durham, NC 27706, USA

National Bureau of Economic Research, Cambridge, MA 02138, USA

Tadas Viskanta

First National Bank of Chicago, Chicago, IL 60670, USA


How do we characterize fixed income risk in a global setting? Evidence in the U.S. suggests that the cross-section of bond returns can be adequately characterized by exposures from a factor model. However, this holds national risk constant. We explore the information in country credit risk ratings to discriminate between high expected return bonds and low expected return bonds. This measure is survey based and by construction forward looking. We find that country credit risk has the ability to differentiate between expected returns as well as volatility in our sample of 14 countries. The credit risk measure is able to account for 43\% of the cross-sectional dispersion in expected fixed income returns measured in U.S. dollars.