Yield Curve Shifts and the Cross-Section of Global Equity Returns

Abstract

We document a new cross-sectional anomaly that links international government bond and equity markets. Using a unique long-run dataset of 61 countries for the years 1900–2019, we demonstrate that past bond yield changes predict future stock index returns in the cross-section. The quintile of countries with the largest decline (or smallest increase) in government bond yields outperforms the quintile of countries with the smallest decline (or largest increase) by 0.63% per month. Our findings support the behavioral roots of this effect, suggesting that investors underreact to yield changes, and slow-moving capital prevents arbitrageurs from eliminating the anomaly. Global investors can employ this bond yield change effect to enhance international asset allocation decisions.