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This paper investigates the sources of time-varying risk for the US stock and bond markets. The model captures the change in the risk premium due to each market's own volatility risk and the covariance risk. We test for the effects of macroeconomic news on time-varying volatility as well as time-varying covariance, and whether such news induces time-varying risk premia in either of the markets. We find that stocks and bonds have higher volatility on the day of macroeconomic announcements. This higher volatility is transitory but because it can be anticipated, it induces increases in the risk premium in both markets.
