The Effect of Macroeconomic News on Beliefs and Preferences: Evidence from the Options Market
Cass Business School; Centre for Economic Policy Research (CEPR)
Michael W. Brandt
Duke University - Fuqua School of Business; National Bureau of Economic Research (NBER)
NBER Working Paper No. w9914
We examine the effect of regularly scheduled macroeconomic announcements on the beliefs and preferences of participants in the U.S. Treasury market by comparing the option-implied state-price density (SPD) of bond prices shortly before and after the announcements. We find that the announcements reduce the uncertainty implicit in the second moment of the SPD regardless of the content of the news. The changes in the higher-order moments, in contrast, depend on whether the news is good or bad for economic prospects. Using a standard model for interest rates to disentangle changes in beliefs and changes in preferences, we demonstrate that our results are consistent with time-varying risk aversion in the spirit of habit formation.
Number of Pages in PDF File: 42
Date posted: August 29, 2003