Macro Risks and the Term Structure of Interest Rates∗ Geert Bekaert, Columbia University and the National Bureau of Economic Research, Eric Engstrom, Board of Governors of the Federal Reserve System Andrey Ermolov, Gabelli School of Business, Fordham University September 9, 2019 Abstract We use non-Gaussian features in U.S. macroeconomic data to identify aggregate supply and demand shocks while imposing minimal economic assumptions. Macro risks represent the vari- ables that govern the time-varying variance, skewness and higher-order moments of these two shocks, with \good" (\bad") variance associated with positive (negative) skewness. We docu- ment that macro risks significantly contribute to the variation of yields and risk premiums for nominal bonds. While overall bond risk premiums are counter-cyclical, an increase in aggregate demand variance significantly lowers risk premiums. Macro risks also significantly predict future realized bond return variances. Keywords: bond return predictability, term premium, macroeconomic volatility, business cycles, macro risk factors JEL codes: E31, E32, E43, E44, G12, G13 ∗Contact information: Geert Bekaert -
[email protected], Eric Engstrom - eric.c.
[email protected], Andrey Ermolov -
[email protected]. Authors thank Michael Bauer, Mikhail Chernov, Isaiah Hull, Philipp Illeditsch, Aaron Pancost, Andrea Vedolin, seminar participants at Baruch College, Bilkent University, University of British Columbia, Bundesbank, City University of London, Duke, Fordham, University of Illinois at Urbana-Champaign,