The Real Effects of Fed Information Shocks on the M&A Market

Abstract

We study the conditions under which monetary contraction counterintuitively increases Mergers and Acquisitions (M&A) activity and improves its various outcomes. We find that unanticipated rises in interest rates, when treated by equity investors as an indicator of a positive assessment of the economic outlook by the Federal Reserve (hereafter “Fed”), lead to (a) a rise in M&A activity, (b) a higher likelihood of M&A completion, and (c) larger bidder gains. We also emphasize the ability of the Fed’s information shocks to partly offset the negative assessment by equity investors of recently announced, but not yet completed, deals. Specifically, contractionary monetary shocks that convey the Fed’s confidence in the economy lead equity investors to have a more positive assessment of recently announced M&A that have initially received a negative market reaction. Our analysis has further implications for cross-border M&A. We show that the positive U.S. economic outlook predicted by contractionary Fed information shocks allows U.S. targets to reap higher premia from foreign bidders. Our results suggest that Fed’s information shocks have major effects on the M&A market that are as strong as the effects of conventional monetary shocks.

Keywords: Monetary Policy; Mergers and Acquisitions; Information Shocks; Takeover Premium; Cumulative Abnormal Returns.

JEL Classification: D83; E43; E44; E52; E58; G34.