We propose a new conditional factor model for corporate bond returns with four factors and time-varying factor loadings instrumented by observable bond characteristics. We have three main empirical findings. First, our factor model excels in describing the risks and returns of corporate bonds, improving over previously proposed models in the literature by a large margin. Second, using bond characteristics to instrument evolving bond risk exposures significantly improves not only our model, but also previously proposed models of observable corporate bond factors. Third, our no-arbitrage model recommends a systematic bond investment portfolio that significantly outperforms leading corporate credit investment strategies.
The information contained herein is only as current as of the date indicated, and may be superseded by subsequent market events or for other reasons. The views and opinions expressed herein are those of the author and do not necessarily reflect the views of AQR Capital Management, LLC, its affiliates or its employees. This information is not intended to, and does not relate specifically to any investment strategy or product that AQR offers. It is being provided merely to provide a framework to assist in the implementation of an investor’s own analysis and an investor’s own view on the topic discussed herein. Past performance is not a guarantee of future results.