We construct a slope factor from changes in federal funds futures of different horizons. The slope factor predicts stock returns at the weekly frequency: faster monetary policy easing positively predicts excess returns. The predictability is robust to the inclusion of standard return predictors and holds across subsamples and out of sample. Investors can achieve increases in weekly Sharpe ratios of 20% conditioning on the slope factor. Federal Open Market Committee (FOMC) meetings do not drive our findings, but the tone of speeches by the FOMC chair and vice chair correlates with the slope factor. The slope factor contains information about the speed of future monetary policy tightening and loosening and predicts changes in future interest rates and forecast revisions of professional forecasters. Macro news explains 9% of the variation in the slope factor, but cannot explain the return predictability. Our findings show the whole path of future interest rates matters for asset prices and monetary policy affects asset prices throughout the year and not only at FOMC meetings.
Authors:
Andreas Neuhierl (University of Notre Dame), Michael Weber (Chicago Booth School of Business)
Discussant:
Grigory Vilkov (Frankfurt School of Finance & Management)