Friday, September 2, 2016

The FOMC-Cycle Pattern of Stock Market Returns

Source: R-bloggers 
Since 1994 the equity premium in the US and in the rest of the world is earned entirely in weeks 0, 2, 4 and 6 in FOMC cycle time, i.e. in time since the last Federal Open Market Committee meeting. This likely reflects a risk premium for news (about monetary policy or the macro economy) coming from the Federal Reserve: 

(1) The FOMC calendar is quite irregular and changes across sub-periods over which our finding is robust. 
(2) Even weeks in FOMC cycle time do not line up with important macro releases. 
(3) Volatility in the federal funds market peaks during even weeks in FOMC cycle time. 
(4) Information processing/decision making within the Fed tends to happen bi-weekly in FOMC cycle time: The bi-weekly cycle is driven mainly by even week observations that follow board meetings of the Board of Governors. 

Furthermore, before 1994, intermeeting target changes were common and disproportionately took place during even weeks in FOMC cycle time. High return weeks do not line up with public information releases from the Federal Reserve or with the frequency of speeches by Fed officials. Systematic informal communication of Federal Reserve officials with the media and the financial sector is a more plausible information transmission mechanism. We discuss the social costs and benefits of this method of communication.  

Source: Anna Cieslak, Adair Morse, Annette Vissing-Jorgensen (June 12, 2016) - Stock Returns Over the FOMC Cycle. Duke University; 63 p. (HERE + HERE)

The Economist (Sep 3, 2016) - Meetings of the Federal Open Market Committee (FOMC), in which Fed governors and regional Fed presidents set interest-rate policy, can trigger rises and falls in the stockmarket [...] Usually every fortnight between FOMC meetings, fresh information is discussed in a gathering of Fed governors [...] gains in the stockmarket have occurred, on average, in the weeks of the FOMC meetings and the ones that involve the governors alone. A dollar invested only during those weeks would have grown more than 12-fold over the period. A dollar invested during other weeks would have lost half its value.