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The response of equity prices to monetary policy announcements: Decomposing the announcement day return into cash-flow news, interest rate news, and risk premium news

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  • Stotz, Olaf

Abstract

This paper analyzes how US stock prices respond to monetary policy decisions. On days of FOMC meetings, we decomposed the daily stock market return into cash-flow news, interest rate news, and risk premium news by applying a novel approach which uses information from option prices. The empirical results suggest that the relation between monetary policy surprises and stock returns is state dependent: In expansions (recessions), the cash-flow channel (risk premium channel) explains most of the announcement day returns. However, during time periods with unconventional monetary policy instruments, the risk premium channel has become more important, even in expansions.

Suggested Citation

  • Stotz, Olaf, 2019. "The response of equity prices to monetary policy announcements: Decomposing the announcement day return into cash-flow news, interest rate news, and risk premium news," Journal of International Money and Finance, Elsevier, vol. 99(C).
    • Handle: RePEc:eee:jimfin:v:99:y:2019:i:c:s026156061830682x
    DOI: 10.1016/j.jimonfin.2019.102069
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    More about this item

    Keywords

    Monetary policy news; Stock returns; Return decomposition; Announcement days;
    All these keywords.

    JEL classification:

    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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