The Impact of the Federal Reserve's Interest Rate Target Announcement on Stock Prices: A Closer Look at how the Market Impounds New Information

46 Pages Posted: 18 Mar 2010 Last revised: 2 Apr 2010

See all articles by Justin Birru

Justin Birru

New York University - Stern School of Business

Stephen Figlewski

New York University - Stern School of Business

Date Written: March 15, 2010

Abstract

The Federal Reserve announces its new interest rate target while the stock market is open, at precisely 2:15 P.M. eight times a year. In the Efficient Markets model, information is impounded in prices immediately and accurately as soon as it becomes public knowledge and only the unanticipated portion moves prices. Responding accurately to news requires investors to judge how much other investors have been surprised and how their investment decisions will be affected, so how the market responds to the news generates additional information to be digested and acted upon. This suggests that the full process of returning to equilibrium can not be instantaneous. In this paper, we combine a non-model dependent procedure for extracting the market's risk neutralized probability density over future stock prices from a set of option prices, with a newly available real time options data set, in order to examine the informational microstructure of the stock market around Fed funds target announcements.

Keywords: risk neutral density, Fed funds target announcement, efficient markets

JEL Classification: G14, G13, D84

Suggested Citation

Birru, Justin and Figlewski, Stephen, The Impact of the Federal Reserve's Interest Rate Target Announcement on Stock Prices: A Closer Look at how the Market Impounds New Information (March 15, 2010). Available at SSRN: https://ssrn.com/abstract=1571938 or http://dx.doi.org/10.2139/ssrn.1571938

Justin Birru

New York University - Stern School of Business ( email )

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Suite 9-160
New York, NY NY 10012
United States
212-998-0576 (Phone)

Stephen Figlewski (Contact Author)

New York University - Stern School of Business ( email )

44 West 4th Street
Department of Finance Suite 9-160
New York, NY 10012-1126
United States
212-998-0712 (Phone)
212-995-4220 (Fax)

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