Geopolitical uncertainty and sovereign bond yields of BRICS economies

Abstract

Purpose The politically unstable economies have high and volatile sovereign spread. The purpose of this paper is to investigate the impact of geopolitical uncertainty on sovereign bond yields. Design/methodology/approach The sovereign yields at various maturities were decomposed into three factors, namely, level, slope and curvature, using the Dynamic Nelson Siegel model. The relationship between geopolitical uncertainty and the yield curve factors was examined using a quantile causality test. Findings The study found that at the extreme high-rate regime, geopolitical uncertainty causes the yield curve factors positively, indicating bond investors demand a higher return for geopolitical uncertainty. On the other hand, during extreme low-rate regime geopolitical causes the short- and medium-term factors negatively. The extreme low-rate regime indicates the period of economic slowdown. During this regime, the central banks try to reduce the short-term rates to stimulate growth. Originality/value This is one of the few papers that investigates the relationship between the geopolitical risk and sovereign bond yields at the various maturities and interest rate regimes. Understanding the relationship between the geopolitical risk and short-term rates would help the central banks the efficacy of their policy actions. The long-term rates are influenced by the global investor preferences; examining the relationship with the long-term rates would help the investors frame the trading strategies.