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Inferring Stock Duration Around FOMC Surprises: Estimates and Implications

Published online by Cambridge University Press:  21 December 2020

Zhanhui Chen Open the ORCID record for Zhanhui Chen [Opens in a new window]
Zhanhui Chen*
Affiliation:
Hong Kong University of Science and Technology, Department of Finance
*
[email protected]
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Abstract

Discount rates affect stock prices directly via the discount-rate channel or indirectly via the cash-flow channel because expected future cash-flow growth varies with the discount rate. The traditional Macaulay duration captures the effect from the discount-rate channel. I propose a novel duration measure, the effective equity duration, to capture the effects from both channels. I estimate it around unexpected policies in the federal funds rates. I find that the equity yield curve is hump-shaped because expected future cash-flow growth increases with the discount rate. The effective equity duration captures information other than monetary policy risk.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 57 , Issue 2 , March 2022 , pp. 669 - 703
Copyright
© The Author(s), 2020. Published by Cambridge University Press on behalf of the Michael G. Foster School of Business, University of Washington

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Footnotes

I am grateful for detailed comments from Jennifer Conrad (the editor) and Andrei Gonçalves (the referee), which significantly improved this article. I also thank Jules van Binsbergen, Utpal Bhattacharya, Jie Cao, Ling Cen, Darwin Choi, Tarun Chordia, Ilan Cooper, Zhi Da, Paul Ehling, Fangjian Fu, Michael Gallmeyer, Niels Gormsen, Burton Hollifield, Jianfeng Hu, Wenxi Jiang, Kai Li, Roger Loh, Abhiroop Mukherjee, Dragon Tang, Sheridan Titman, John Wei, Yizhou Xiao, Jialin Yu, and Chu Zhang and seminar participants at the Chinese University of Hong Kong, the University of Hong Kong, Hong Kong Polytechnic University, Hong Kong University of Science and Technology, and the 2018 Society for Financial Studies (SFS) Cavalcade Asia-Pacific for helpful comments. I acknowledge financial support from the Hong Kong University of Science and Technology and the Research Grants Council of Hong Kong (General Research Fund 16502020). I thank Bowen Yang and Chuyi Yang for the excellent assistance with collecting Federal Open Market Committee (FOMC) announcement data.

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