Sovereign credit risk has become an important factor driving government bond returns. The authors therefore introduce an empirical asset pricing model which exploits information contained in both forward interest rates and forward CDS spreads. Their analysis covers euro-zone countries with German government bonds as credit risk-free assets. The authors construct a market factor from the first three principal components of the German forward curve as well as credit risk factors from the principal components of forward CDS curves. Their results show that predictability of risk premiums of sovereign euro-zone bonds improves substantially if the market risk factor is augmented by a common euro zone and an orthogonal country-specific credit risk factor, measured by an increase in the average R2 over euro-zone sovereigns from 0.21 to 0.61. Furthermore, the authors find that most of the variation of sovereign bond risk premiums is attributable to the common euro-zone credit risk factor while country-specific credit risk factors play a subordinate role.