Abstract
We develop an empirical model of heterogeneous agents to study the dynamics of the European sovereign bonds market. Agents make use of different information from the CDS market and historical price movements of the sovereign bonds for their trading decisions. Subject to the perceived sovereign risk, agents exhibit changing trading behaviors in high-risk periods and tranquil times. To compare the ability of our model to identify crises periods, we also run a generalized sup ADF test as suggested in Phillips et al. (Int Econ Rev 56(4):1043–1078, 2015). Our results indicate that the smooth transition regression framework may provide additional valuable information regarding the timing of crisis events.
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Notes
For the four level time series, \(\mathrm{BS}_\mathrm{Ge}\), \(\mathrm{BS}_\mathrm{Gr}\), \(\mathrm{CDS}_\mathrm{Ge}\) and \(\mathrm{CDS}_\mathrm{Gr}\), unit root tests already suggest that all these time series are I(1) processes.
While the extant literature mainly uses I(0) process variables as transition variables such that spurious regressions could be avoided in the linearity test, Lundbergh et al. (2003) propose a two-regime model with a non-stationary transition variable. Battaglia and Protopapas (2011, 2012) propose a procedure based on genetic algorithms to evaluate time-varying multi-regimes models with non-stationary transition variables and apply in the investigation of global warming. In our case, the German and Greek CDS spreads are I(1) processes. We verify that the residuals of each linearity regression are I(0) processes, and therefore, the concern is eased for the spurious regression in the linearity test.
Given the high persistence of \(\mathrm{ERR}_{i,t}\) statements about statistical significance of the estimated coefficients have to be taken with caution, since t-statistics may be unreliable, see, for instance, Phillips and Lee (2013).
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Acknowledgements
We thank the anonymous reviewer for extraordinary valuable comments on earlier version of this article. We are grateful of the guidance received from editor Bertrand Candelon. We also thank Donald Lien for the valuable suggestions and Annalee McWilliams for excellent research assistance. This project has received funding from the European Union’s Seventh Framework Programme for research, technological development and demonstration (Grant Agreement No. 612955), the Youth Foundation of the Humanities and Social Sciences Research of the Ministry of Education of China (Grant No. 17YJC790016) and the Natural Science Foundation of Guangdong Province, China (Grant No. 2017A030310314).
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Chen, Z., Reitz, S. Dynamics of the European sovereign bonds and the identification of crisis periods. Empir Econ 58, 2761–2781 (2020). https://doi.org/10.1007/s00181-019-01653-0
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DOI: https://doi.org/10.1007/s00181-019-01653-0