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On the Diversification of Fixed Income Assets

Author

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  • Olivier Le Courtois

    (Department of Economics and Finance, Emlyon Business School, 23, Avenue Guy de Collongue, CEDEX, 69134 Ecully, France)

Abstract

This article introduces a new approach for dealing with the diversification/concentration risk of fixed income assets. Because Government bonds, corporate bonds, and mortgage backed securities constitute a large proportion of the assets of institutional investors in most countries, it is important to be able to determine the number of lines/issuers of such assets, not only for portfolio management but also for risk management purposes. The approach that I introduce shows the dependence of the critical number of lines of fixed income assets on the main interest rate risk and credit risk drivers. Specifically, I examine the importance of volatility risk, force of mean reversion, default risk, recovery risk, and default dependence risk on the critical number of assets in a fixed income portfolio. The methodology in this paper relies on the use of the coefficient of variation for the computation of the critical number of credit-sensitive securities in a fixed income portfolio. To the best of my knowledge, this paper is the first to develop such an approach.

Suggested Citation

  • Olivier Le Courtois, 2022. "On the Diversification of Fixed Income Assets," Risks, MDPI, vol. 10(2), pages 1-21, February.
    • Handle: RePEc:gam:jrisks:v:10:y:2022:i:2:p:31-:d:740084
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    References listed on IDEAS

    as
    1. Olivier Le Courtois & Christian Walter, 2014. "Extreme Financial Risks and Asset Allocation," World Scientific Books, World Scientific Publishing Co. Pte. Ltd., number p907, August.
    2. Robert A. Jarrow & David Lando & Fan Yu, 2008. "Default Risk And Diversification: Theory And Empirical Implications," World Scientific Book Chapters, in: Financial Derivatives Pricing Selected Works of Robert Jarrow, chapter 19, pages 455-480, World Scientific Publishing Co. Pte. Ltd..
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