Management Science, 2016.
You can find the paper here.
We extend results in Dai and Singleton (2002). Cochrane and Piazzesi (2005) show that (i) lagged forward rates improve the predictability of annual bond returns, adding to current forward rates, and that (ii) a Markovian model for monthly forward rates cannot generate the pattern of predictability in annual returns. These results stand as a challenge to modern Markovian dynamic term structure models (DTSMs). We develop the family of Conditional Mean DTSMs where the yield dynamics depend on current yields and their history. We match these bond risk premium stylized facts. A small Markovian factor “hidden” in measurement error (Duffee, 2011) helps but it is not sufficient to match the evidence.