Asset Return Dynamics
Friday, Jan. 5, 2018 8:00 AM - 10:00 AM
- Chair: Dana Kiku, University of Illinois
Habits and Leverage
AbstractMany stylized facts of leverage, trading, and asset prices follow from a frictionless general equilibrium model that features agents’ heterogeneity in endowments and habit preferences. Our model predicts that aggregate debt increases in good times when stock
prices are high, return volatility is low, and levered agents enjoy a “consumption boom.” Our model is consistent with poorer agents borrowing more and with recent evidence on intermediaries’ leverage being a priced factor of asset returns. In crisis times, levered agents strongly deleverage by “fire selling” their risky assets as asset prices drop. Yet,
consistently with the data, their debt-to-wealth ratios increase because their wealth decline faster due to higher discount rates.
Fearing the Fed: How Wall Street Reads Main Street
AbstractWe provide strong evidence of persistent cyclical variation in the sensitivity of stock prices to macroeconomic news announcement (MNA) surprises. The stock market sensitivity is muted during the early recession and the late expansion phases of the economy, however, it increases significantly, reaching peak values in the early expansion phase. We show that market expectations and uncertainty about the future interest rate path is one of the primary drivers of the cyclical market response to MNAs -- responses depend on whether the Fed is expected to be reactive. Evidence from survey forecasts and a monetary regime-switching model corroborates the connection between the cyclical stock responses and monetary policy expectations. A decomposition of the stock market responses shows that they primarily reflect news about cash flows and interest rate rather than risk premia news.
- G1 - General Financial Markets