Correlations in the Bond-Future Market

TL;DR

This paper investigates the statistical dependencies between bond futures markets by analyzing overnight returns, revealing significant correlations and dependence structures that can inform investment strategies.

Contribution

It introduces a novel symbolic-dynamics model of bond futures returns and demonstrates the importance of bivariate dependence for accurate statistical modeling.

Findings

Bond futures returns are correlated and not independent.

A trinomial probability distribution effectively models individual bond walks.

Accounting for bivariate dependence improves the simulation of market data.

Abstract

We analyze the time series of overnight returns for the bund and btp futures exchanged at LIFFE (London). The overnight returns of both assets are mapped onto a one-dimensional symbolic-dynamics random walk: The `bond walk'. During the considered period (October 1991 - January 1994) the bund-future market opened earlier than the btp-future one. The crosscorrelations between the two bond walks, as well as estimates of the conditional probability, show that they are not independent; however each walk can be modeled by means of a trinomial probability distribution. Monte Carlo simulations confirm that it is necessary to take into account the bivariate dependence in order to properly reproduce the statistical properties of the real-world data. Various investment strategies have been devised to exploit the `prior' information obtained by the aforementioned analysis.