Capturing the correlations of fixed-income instruments

John Michael Mulvey, Stavros A. Zenios

Research output: Contribution to journalArticle

27 Scopus citations

Abstract

This paper develops a framework for managing portfolios of fixed income instruments based on traditional principles from the equities market, i.e., based on diversification. It shows, through an analysis of the high-yield bond market over the period 1987 to 1991, that fixed-income prices could be highly correlated. These correlations can be quantified and integrated, in a systematic way, in an asset/liability management framework. For vanishing fixed income securities, however, we cannot resort to statistical analysis of historical data in order to quantify correlations. The paper develops a forward-looking simulation procedure for capturing correlations. Applications are illustrated for examples from high-yield bonds and mortgage-backed securities. The superiority of the proposed approach over the traditional portfolio immunization techniques is demonstrated in the context of funding an insurance liability stream with mortgage instruments.

Original languageEnglish (US)
Pages (from-to)1329-1342
Number of pages14
JournalManagement Science
Volume40
Issue number10
DOIs
StatePublished - Jan 1 1994

All Science Journal Classification (ASJC) codes

  • Strategy and Management
  • Management Science and Operations Research

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