Can behavioral biases explain the rejections of the expectation hypothesis of the term structure of interest rates?

I G Bulkley, Richard D F Harris, Vivek Nawosah

Research output: Contribution to journalArticle (Academic Journal)peer-review

5 Citations (Scopus)
213 Downloads (Pure)

Abstract

We test whether the rejections of the expectations hypothesis of the term structure of interest rates can be explained by two behavioral biases: the law of small numbers and conservatism. We use the term structure to decompose excess bond returns into components related to expectation errors and expectation revisions, enabling a direct test of behavioral models using the expectations of market participants. We find systematic patterns in expectation errors, and expectation revisions, that are consistent with these two biases. Moreover, we show that our
results are unlikely to be driven by a time-varying risk premium.
Original languageEnglish
Pages (from-to)179-193
Number of pages15
JournalJournal of Banking and Finance
Volume58
Early online date27 Apr 2015
DOIs
Publication statusPublished - Sep 2015

Keywords

  • Behavioral bias
  • Conservatism
  • Law of small numbers
  • Representativeness
  • Expectations hypothesis of the term structure of interest rates

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