Abstract:
In this paper, we analysed several emerging market (EM) and developed market (DM)
sovereign yield curves to identify the proportion of parallel and non-parallel shifts over time. We
found that non-parallel shifts are more prevalent in EM due to higher political and economic risks.
Key drivers include systemic risk events like wars, debt distress, and pandemics. By backtesting a
long butterfly strategy to extract non-parallel risk premia from June 2007 to March 2024, we observed
that steeper slopes and greater curvature result in higher returns. We also quantified monetary and
fiscal regimes to determine what types of policies are required to extract non-parallel risk premia
from these sovereign yield curves. Our research suggests that countries with opposing monetary
and fiscal policies possess higher return opportunities whilst countries with complementing policies
require tactical butterfly strategies to optimise returns.
