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Economic factors, monetary policy and expected returns on stocks and bonds

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  • James R. Booth
  • Lena Chua Booth
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    Abstract

    This paper examines the impact of the stance of monetary policy on security returns. The two measures of the stance of monetary policy used, the federal funds rate and an index based on the changes in the discount rate, contain significant information that can be used to forecast expected stock and bond portfolio returns. Specifically, we find that a restrictive (expansive) monetary policy stance decreases (increases) returns of large and small stock portfolios and in some cases, corporate bond portfolios. The monetary policy stance measures have explanatory power in forecasting stock and bond returns, beyond the business conditions proxies.

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    Bibliographic Info

    Article provided by Federal Reserve Bank of San Francisco in its journal Economic Review.

    Volume (Year): (1997)
    Issue (Month): ()
    Pages: 32-42

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    Handle: RePEc:fip:fedfer:y:1997:p:32-42:n:2

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    Related research

    Keywords: Stock - Prices ; Bonds ; Corporate bonds ; Monetary policy - United States ; Federal funds rate;

    References

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    1. Schwert, G William, 1990. " Stock Returns and Real Activity: A Century of Evidence," Journal of Finance, American Finance Association, vol. 45(4), pages 1237-57, September.
    2. Robert J. Shiller, 1984. "Stock Prices and Social Dynamics," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 15(2), pages 457-510.
    3. Ben S. Bernanke & Alan S. Blinder, 1989. "The federal funds rate and the channels of monetary transmission," Working Papers 89-10, Federal Reserve Bank of Philadelphia.
    4. Donald B. Keim & Robert F. Stambaugh, . "Predicting Returns in the Stock and Bond Markets," Rodney L. White Center for Financial Research Working Papers 15-85, Wharton School Rodney L. White Center for Financial Research.
    5. Campbell, John, 1987. "Stock Returns and the Term Structure," Scholarly Articles 3207699, Harvard University Department of Economics.
    6. Kaul, Gautam, 1987. "Stock returns and inflation : The role of the monetary sector," Journal of Financial Economics, Elsevier, vol. 18(2), pages 253-276, June.
    7. Waud, Roger N, 1970. "Public Interpretation of Federal Reserve Discount Rate Changes: Evidence on the 'Announcement Effect'," Econometrica, Econometric Society, vol. 38(2), pages 231-50, March.
    8. Romer, Christina D. & Romer, David H., 1989. "Does Monetary Policy Matter? A New Test in the Spirit of Friedman and Schwartz," Department of Economics, Working Paper Series qt5h07k8vf, Department of Economics, Institute for Business and Economic Research, UC Berkeley.
    9. Romer, Christina D. & Romer, David H., 1994. "Monetary policy matters," Journal of Monetary Economics, Elsevier, vol. 34(1), pages 75-88, August.
    10. Geske, Robert & Roll, Richard, 1983. " The Fiscal and Monetary Linkage between Stock Returns and Inflation," Journal of Finance, American Finance Association, vol. 38(1), pages 1-33, March.
    11. Banz, Rolf W., 1981. "The relationship between return and market value of common stocks," Journal of Financial Economics, Elsevier, vol. 9(1), pages 3-18, March.
    12. Fama, Eugene F, 1981. "Stock Returns, Real Activity, Inflation, and Money," American Economic Review, American Economic Association, vol. 71(4), pages 545-65, September.
    13. Robert J. Shiller, 1984. "Stock Prices and Social Dynamics," Cowles Foundation Discussion Papers 719R, Cowles Foundation for Research in Economics, Yale University.
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    Cited by:
    1. Tori, Cynthia Royal, 2001. "Federal Open Market Committee meetings and stock market performance," Financial Services Review, Elsevier, vol. 10(1-4), pages 163-171.
    2. Jensen, Gerald R. & Moorman, Theodore, 2010. "Inter-temporal variation in the illiquidity premium," Journal of Financial Economics, Elsevier, vol. 98(2), pages 338-358, November.
    3. John, Tatom, 2009. "U.S. Monetary Policy and Stock Prices: Should the Fed Attempt to Control Stock Prices?," MPRA Paper 19762, University Library of Munich, Germany.
    4. Clive Coetzee, 2002. "Monetary Conditions and Stock Returns: A South African Case Study," Finance 0205002, EconWPA.
    5. Ioannidis, Christos & Kontonikas, Alexandros, 2008. "The impact of monetary policy on stock prices," Journal of Policy Modeling, Elsevier, vol. 30(1), pages 33-53.
    6. Lee, Ki Seong & Yoon, Seok, 2007. "Interrelationships and volatility of the financial asset prices under capital flows: The case of Korea," Economic Modelling, Elsevier, vol. 24(3), pages 386-397, May.
    7. Jensen, Gerald R. & Mercer, Jeffrey M., 2006. "Security markets and the information content of monetary policy turning points," The Quarterly Review of Economics and Finance, Elsevier, vol. 46(4), pages 477-494, September.

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