Term Premium In China's Treasury Bond Market

Long-term Treasury bond rates include expectations of future's short rates and term premium. Term premium plays an important role in long-term rates movement. So it is very important to study term premium and the information it conveys.This paper provides empirical evidence on the term premiums in two of the China's Treasury Bond markets. Firstly, using ex-post method. this study makes it clear that term premium is time-varying and does not accord with the Rational Expectation Hypothesis. Secondly. a three-factor affine term structure model is used to estimate the ex-ante term premium. This shows that term premiums affect term structure variously at different periods. Ex-post and ex-ante premiums are not the same due to estimating errors.The paper then examines the possible sources of term premiums. A VEC model is used to describe the joint dynamics of ex-ante term premiums and macro-economic variables. which show that inflation and economic development are the most important macro-economic elements to affect term premiums. This is followed by an investigation of term structure proxies and stock markets. where a strong relationship is found between both of them and term premiums.Finally the paper looks at the differences in both interest rate expectations and term premiums from the point of view of investor behavior. It is apparent that inter-bank market investors have greater risk tolerance than exchange market investors. However. the former's estimations are led by the latter's. With the combination of the two markets, the investor behavior is becoming consistent.