The cross-section of Chinese corporate bond returns

We study the relation between bond characteristics and corporate bond returns in China's two distinct and segmented bond markets—the interbank market and the exchange market—with a large cross-sectional dataset of 8318 corporate bonds from January 2010 to December 2022. Corporate bonds with large sizes, long maturities, old ages, poor credit ratings and large Amihud illiquidity earn high monthly returns in the interbank market. The return predictive patterns of bond size, time to maturity, and credit rating are similar in the exchange market, but bond age and Amihud illiquidity predict returns in the opposite direction, implying market segmentation. We construct two factors based on credit rating and Amihud illiquidity to represent the common risk of corporate bonds—credit risk and liquidity risk—and use the Hansen-Jagannathan distance to evaluate the performances of factors in explaining the returns of corporate bond portfolios. We find that the two characteristic-based factors help reduce the model specification errors of the five factors in Fama and French (1993).