Modelling sovereign bond yield curves of the US, Japan and Germany

Abstract

Abstract The movement of sovereign yields is important for both investment and risk management. This paper applies a method that was first developed by Diebold et al. (2006) to model the sovereign bond yield curves of the US, Japan and Germany. By including observable macroeconomic variables as well as the latent factors of the yield curve, we find evidence of a strong interaction between the yield curve and macro‐variables in the US and Germany but not in Japan. We also estimate the dynamic conditional correlations of the latent factors to reveal the cross‐country correlations of the bond markets. Copyright © 2007 John Wiley & Sons, Ltd.