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Economic Indicators

The U.S. economy is a very complex system, with indicators therefore ambiguous and difficult to interpret. To what degree do macroeconomics and the stock market go hand-in-hand, if at all? Do investors/traders: (1) react to economic readings; (2) anticipate them; or, (3) just muddle along, mostly fooled by randomness? These blog entries address relationships between economic indicators and the stock market.

Which Economic Data Announcements Matter?

Which of those morning economic data releases really move markets? In their August 2008 paper entitled “How Economic News Moves Markets”, Leonardo Bartolini, Linda Goldberg and Adam Sacarny explore how surprises in economic data releases affect asset prices in the stock, bond and currency exchange markets. They consider the following releases: (1) nonfarm payrolls and unemployment rate; (2) consumer price index (CPI) and CPI excluding food and energy; (3) personal consumption expenditures excluding food and energy, personal income and personal spending;(4), gross domestic product (GDP) advance; (5) Institute of Supply Management (ISM) manufacturing: (6) housing starts; (7), Conference Board Consumer Confidence Index; (8) University of Michigan Survey of Consumers; and, (9) retail sales less autos. They quantify “surprise” as the difference between the announced value for an indicator and value previously expected by key market participants. Using economic data releases and contemporaneous intraday asset and futures prices for the period January 1998 to July 2007, they conclude that: Keep Reading

Bank Failures and Stock Returns

How does the rate of bank interventions by the Federal Deposit Insurance Corporation (FDIC) relate to U.S. stock returns? To check, we compare the percentage of banks with FDIC closing and assistance transactions with the annual change in the Dow Jones Industrial Average (DJIA). We exclude savings and loan institutions from the sample for comparability of long-run data. Using FDIC bank population and intervention data and contemporaneous DJIA data over the period 1934-2007 (74 years), we find that: Keep Reading

An International Test of Common Stock Return Indicators

Do any indicators systematically predict stock returns across global equity markets? In his June 2008 paper entitled “Predicting Global Stock Returns”, Erik Hjalmarsson tests the power of four common indicators (dividend-price ratio, earnings-price ratio, short interest rate and term spread) to predict stock returns for markets in 24 developed and 16 emerging economies. Using a very large dataset encompassing 20,000 monthly observations of returns and indicators ranging as far back as 1836, he concludes that: Keep Reading

Oil Price Shocks and the Stock Market: The Good, the Bad and the Indifferent

Does the U.S. stock market reliably decline in response to a positive crude oil price shock? In their March 2007 paper entitled “The Impact of Oil Price Shocks on the U.S. Stock Market”, Lutz Kilian and Cheolbeom Park investigate complexities in the relationship between U.S. stock returns and crude oil prices according to the causes of oil price shocks. Using data for crude oil prices, aggregate (value-weighted) stock returns and inflation over the period January 1975 through September 2005, they conclude that: Keep Reading

Macroeconomic Shocks and the Stock Market

How strong and persistent are the effects of inflation rate and interest rate shocks on the stock market? In the May 2008 draft of their paper entitled “Inflation, Monetary Policy and Stock Market Conditions”, Michael Bordo, Michael Dueker and David Wheelock quantify the extent to which various macroeconomic and policy shocks (industrial production, inflation, money supply growth, 10-year Treasury note yield and 3-month Treasury bill yield) explain the behavior of U.S. real stock prices and stock market conditions (trend) during the second half of the 20th century. Using monthly data for these variables and the S&P 500 index (as a proxy for stock prices) over the period August 1952 through December 2005, they conclude that: Keep Reading

Industrial Production as a Predictor of Stock Returns

Does any broad measure of the state of the economy meaningfully predict financial market returns? In their May 2008 paper entitled “Time-Varying Risk Premia and the Output Gap”, Ilan Cooper and Richard Priestley investigate the output gap as a direct link between future stock returns and economic fundamentals. They define output gap as the deviation of the log of industrial production from a trend constructed from both linear and quadratic components. Using unrevised industrial production data, aggregate U.S. stock market returns and Treasury bill yields (to calculate excess returns) for the period 1948-2005, they conclude that: Keep Reading

Inflation as Fed Model Intermediator

Is the Fed Model an artifact of bad investor behavior (money illusion) or rational response? In the April 2008 draft of their paper entitled “Inflation and the Stock Market: Understanding the “Fed Model”, Geert Bekaert and Eric Engstrom carefully re-examine mechanisms that might explain why the Fed Model “works.” Using quarterly inputs for bond yield, S&P 500 index level and dividend yield, the economic forecast and a consumption-based measure of risk aversion spanning the fourth quarter of 1968 through 2007, they conclude that: Keep Reading

Predicting Bear Markets

Is it possible to predict bear markets for stocks using macroeconomic indicators? In his March 2008 paper entitled “Predicting the Bear Stock Market: Macroeconomic Variables as Leading Indicators”, Shiu-Sheng Chen investigates whether macroeconomic variables such as interest rate term spread, inflation rate, money supply, aggregate output and unemployment rate can individually predict equity bear markets both in-sample and out-of-sample. Using monthly S&P 500 index data and macroeconomic data for the period February 1957 through December 2007, he concludes that: Keep Reading

Does the Fiscal Deficit Really Affect Asset Valuations?

How do investors respond to the state of the U.S. federal fiscal deficit? In their August 2007 paper entitled “Fiscal Policy and Asset Markets: A Semiparametric Analysis”, Dennis Jansen, Qi Li, Zijun Wang and Jian Yang examine the relationships between U.S. fiscal policy and U.S. asset markets (stocks and bonds). Using monthly data for the S&P 500 index, U.S. corporate bond yield, 10-year Treasury note (T-note) yield, the Federal Funds Rate (FFR), industrial production, the Consumer Price Index and the U.S. government budget deficit over the period July 1954 through December 2005 (618 months), they conclude that: Keep Reading

Reliable Intraday Trades on Federal Funds Rate Decisions?

Can traders reliably exploit the reaction of stocks to scheduled Federal Funds Rate (FFR) decisions? In their October 2007 paper entitled “The Effects of Federal Funds Target Rate Changes on S&P100 Stock Returns, Volatilities, and Correlations”, Helena Chulia-Soler, Martin Martens and Dick van Dijk study the impact of Federal Open Market Committee scheduled announcements of FFR decisions on individual stocks at the intraday level. Using high-frequency price data for components of the S&P 100 index around scheduled FFR decision announcements between between May 1997 and November 2006 (77 announcements), they find that: Keep Reading

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