Macro-Finance
Paper Session
Saturday, Jan. 7, 2023 2:30 PM - 4:30 PM (CST)
- Chair: Quentin Vandeweyer, University of Chicago
Idiosyncratic Income Risk, Precautionary Saving, and Asset Prices
Abstract
Households are subject to substantial tail risk in individual labor income, and the amount of income risk fluctuates over the business cycle. This paper proposes a New Keynesian production-based asset pricing model where idiosyncratic labor income risk is a key source of priced risk in equity markets. Uninsured income tail risk drives the aggregate demand for consumption goods through a time-varying precautionary saving motive, generating cyclicality in firm cash flows. In the cross section, firms facing more elastic demand are more exposed to fluctuations in idiosyncratic tail risk. This risk exposure is compensated by a significant and countercyclical risk premium in equity returns. Empirical findings support the predictions of the model.Pre-FOMC Information Asymmetry
Abstract
We uncover informed trading on the days before federal open market committee (FOMC) announcements. We show that this informed trading can explain the pre-FOMC announcement drift in the stock market, by contributing to the resolution of uncertainty before announcement. We document three distinct novel evidences supporting this. First, we show that U.S. corporate bond yield changes in the blackout period before FOMC announcements can predict monetary policysurprises, with about 30% R-squared. Second, and consistent with informed trading, we show that corporate bond customers tend to buy before upcoming expansionary FOMC surprises and sell
before contractionary FOMC surprises. Finally, we uncover pre-FOMC information flow from corporate bond to the stock market by showing that (a) corporate bond yield changes Granger cause stock market pre-FOMC movements, and (b) lagged corporate bond customer-dealer trade
imbalances can explain pre-FOMC stock market returns, and the pre-announcement drift.
The Fed and the Secular Decline in Interest Rates
Abstract
In this paper I document a striking fact: a narrow window around Fed meetings fully capturesthe secular decline in U.S. Treasury yields since 1980. By contrast, yield movements
outside this window are transitory and wash out over time. This is surprising because the
forces behind the secular decline are thought to be independent of monetary policy. However,
it is possible that the bond market learns about these forces from the Fed. Two additional
facts support this interpretation: (i) long-term yields drop immediately following Fed
announcements, and (ii) the Fed’s expectation about the long-run level of the federal funds
rate – revealed through the dot plot – has a strong impact on long-term yields. To explain
these facts, I present a dynamic term structure model in which the Fed learns from the yield
curve and the market learns from Fed meetings. The model rules out alternative explanations
such as business cycle information and risk premia. It further implies that the Fed
possesses important information about the long-run neutral interest rate. This can explain
why Fed announcements have a powerful impact on the valuations of long-lived assets like
the stock market.
Discussant(s)
Mariano (Max) Croce
,
Bocconi University
Ali Ozdagli
,
Federal Reserve Bank of Dallas
Leyla Jianyu Han
,
Boston University
Anna Cieslak
,
Duke University
JEL Classifications
- G0 - General