Premium for Heightened Uncertainty: Explaining Pre-Announcement Market Returns

43 Pages Posted: 2 Dec 2018 Last revised: 17 Mar 2020

See all articles by Grace Xing Hu

Grace Xing Hu

PBC School of Finance, Tsinghua University

Jun Pan

Shanghai Jiao Tong University (SJTU) - Shanghai Advanced Institute of Finance (SAIF); National Bureau of Economic Research (NBER); China Academy of Financial Research (CAFR)

Jiang Wang

Massachusetts Institute of Technology (MIT) - Sloan School of Management; China Academy of Financial Research (CAFR); National Bureau of Economic Research (NBER)

Haoxiang Zhu

Massachusetts Institute of Technology (MIT) - Sloan School of Management; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: March 15, 2020

Abstract

We show that the pattern of positive pre-announcement market drift is present not only for FOMC announcements, as documented by Lucca and Moench (2015), but also for other major macroeconomic announcements such as Nonfarm Payroll, ISM and GDP. This commonality in pre-announcement returns leads us to hypothesize that there are two kinds of risks associated with pre-scheduled macroeconomic announcements. The first risk arises from the uncertain content of the news itself and is directional in nature, while the second risk is associated with the "heightened uncertainty'' in anticipation of a pre-scheduled announcement, relating in particular to its potential market impact. Theoretically, we show that it is the resolution of this second risk prior to an announcement that leads to the positive pre-announcement drift. Moreover, our model shows that this second risk can be captured by VIX and the positive pre-announcement drift occurs in the absence of increases in conventional risk measures. We further provide direct evidence on the heightened uncertainty and its later resolution prior to the macroeconomic releases including FOMC. In addition to the pre-scheduled announcements, heightened uncertainty can also be triggered unexpectedly. Indeed, we find abnormally large returns on days following large spike-ups in VIX, with magnitudes comparable to the pre-announcement returns.

Keywords: Pre-Announcement Drift, FOMC, Macroeconomic Announcements, Heightened Uncertainty, VIX

JEL Classification: G12, G14

Suggested Citation

Hu, Grace Xing and Pan, Jun and Wang, Jiang and Zhu, Haoxiang, Premium for Heightened Uncertainty: Explaining Pre-Announcement Market Returns (March 15, 2020). Available at SSRN: https://ssrn.com/abstract=3290649 or http://dx.doi.org/10.2139/ssrn.3290649

Grace Xing Hu (Contact Author)

PBC School of Finance, Tsinghua University ( email )

43 Chengfu Road
Haidian District
Beijing, Beijing 100083
China

Jun Pan

Shanghai Jiao Tong University (SJTU) - Shanghai Advanced Institute of Finance (SAIF) ( email )

Shanghai Jiao Tong University
211 West Huaihai Road
Shanghai, 200030
China

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

China Academy of Financial Research (CAFR)

1954 Huashan Road
Shanghai P.R.China, 200030
China

Jiang Wang

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

E62-614
100 Main Street
Cambridge, MA 02142
United States
617-253-2632 (Phone)
617-258-6855 (Fax)

China Academy of Financial Research (CAFR)

1954 Huashan Road
Shanghai P.R.China, 200030
China

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Haoxiang Zhu

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

100 Main Street E62-623
Cambridge, MA 02142
United States

HOME PAGE: http://www.mit.edu/~zhuh

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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