An empirical assessment of the key drivers of sovereign bond yields in South Africa: it’s not just about fundamentals

Abstract

The writer studies the short-run determinants of bond yield volatility in South Africa (SA) by analyzing the impact that global factors –representing global funding conditions – have on the changes to the rand denominated generic 10-year government bond yield (SAGB). This is followed by a one-period forward forecast of this volatility. The explanatory variables tested in this study are as follows: net bond purchases by foreign investors, Chicago Board Options Volatility Index (VIX), JP Morgan Emerging Market Bond Index (JP EMBI) spread, the US dollar to SA rand (USDZAR) exchange rate, the SA 5 year credit default swap (CDS) rate, the 12 month interest rate expectation/9x12 forward rate agreement (FRA), dollar spot price of gold and dollar spot price of oil. The study period ranges from January 2000 to December 2015. The GARCH modelling technique is used due to its ability to capture the volatility clustering effects observed in time series return data. The writer used the Gaussian distribution as the default model, however in order to control for the skewness and fat-tails in financial market return data, the Student-T and Generalised Error distributions are also tested to see if the non-normally distributed bond returns could be better captured by alternative parametric assumptions. The results show that all the explanatory variables, with the exception of the FRA, are statistically significant in explaining volatility in the local generic 10-year government bond.