Stock Market Firm-Level Information and Real Economic Activity

38 Pages Posted: 15 Aug 2011

See all articles by Filippo di Mauro

Filippo di Mauro

European Central Bank (ECB)

Fabio Fornari

European Central Bank (ECB)

Dario Mannucci

Prometeia

Date Written: August 4, 2011

Abstract

We provide evidence that changes in the equity price and volatility of individual firms (measures that approximate the definition of 'granular shock' given in Gabaix, 2010) are key to improve the predictability of aggregate business cycle fluctuations in a number of countries. Specifically, adding the return and the volatility of firm-level equity prices to aggregate financial information leads to a significant improvement in forecasting business cycle developments in four economic areas, at various horizons. Importantly, not only domestic firms but also foreign firms improve business cycle predictability for a given economic area. This is not immediately visible when one takes an unconditional standpoint (i.e. an average across the sample). However, conditioning on the business cycle position of the domestic economy, the relative importance of the two sets of firms - foreign and domestic - exhibits noticeable swings across time. Analogously, the sectoral classification of the firms that in a given month retain the highest predictive power for future IP changes also varies significantly over time as a function of the business cycle position of the domestic economy. Limited to the United States, predictive ability is found to be related to selected balance sheet items, suggesting that structural features differentiate the firms that can anticipate aggregate fluctuations from those that do not help to this aim. Beyond the purely forecasting application, this finding may enhance our understanding of the underlying origins of aggregate fluctuations. We also propose to use the cross sectional stock market information to macro-prudential aims through an economic value at Risk.

Keywords: business cycle forecasting, granular shock, international linkages

JEL Classification: C53, C58, F37, G15

Suggested Citation

di Mauro, Filippo and Fornari, Fabio and Mannucci, Dario, Stock Market Firm-Level Information and Real Economic Activity (August 4, 2011). ECB Working Paper No. 1366, Available at SSRN: https://ssrn.com/abstract=1904833 or http://dx.doi.org/10.2139/ssrn.1904833

Filippo Di Mauro (Contact Author)

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

Fabio Fornari

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

Dario Mannucci

Prometeia ( email )

Via G. Marconi, 43
I-40122 Bologna
United States

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