The Effects of Federal Funds Target Rate Changes on S&P100 Stock Returns, Volatilities, and Correlations

Helena Chuliá · Dick J.C. van Dijk · Martin P.E. Martens

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Financial Markets and Investment Strategies Monetary Policy and Economic Impact Market Dynamics and Volatility

Abstract

We study the impact of FOMC announcements of Federal funds target rate decisions on individual stock prices at the intraday level. We find that the returns, volatilities and correlations of the S&P100 index constituents only respond to the surprise component in the announcement, as measured by the change in the Federal funds futures rate. For example, an unexpected 25 basis points increase of the target rate leads on average to a 113 basis points negative market return within five minutes after the announcement. It also increases market volatility during the 60-minute window around the announcement with 147 basis points. Positive surprises, meaning bad news for stocks, provoke a stronger reaction than negative surprises. Market participants also respond differently to good and bad news. In case of bad news for stocks the fact that there is a surprise matters most, whereas in case of good news the magnitude of the surprise is more important. Across sectors, Financials and IT show the strongest response to target rate surprises.

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References

2008Estimating Standard Errors in Finance Panel Data Sets: Comparing Approaches 2001Extreme Correlation of International Equity Markets 2005What Explains the Stock Market's Reaction to Federal Reserve Policy?2001Monetary policy surprises and interest rates: Evidence from the Fed funds futures market 2004Power and Bipower Variation with Stochastic Volatility and Jumps 2006Asymmetric Dynamics in the Correlations of Global Equity and Bond Returns 2004Do Actions Speak Louder Than Words? The Response of Asset Prices to Monetary Policy Actions and Statements 2007Roughing It Up: Including Jump Components in the Measurement, Modeling, and Forecasting of Return Volatility

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