The Greenspan Effect on Equity Markets: An Intraday Examination of U.S. Monetary Policy Announcements

In this paper, we provide an intraday analysis of the impact of monetary policy on the equity markets. Specifically, we study changes in prices and changes in volatility for the S&P 500 associated with Federal Open Market Committee announcements as well as real-time changes in market expectations about future policy. The analysis shows an economically and statistically significant inverse relationship between equity market returns and changes in the Fed funds rate target. The magnitude of the response is dependent on whether the change was expected or unexpected. An expected change in the Fed funds rate target of 25 basis points results in approximately a 30 basis point decline in the broad equity market, while an unexpected change of 25 basis points in the Fed funds rate target results in approximately 125 basis point decline in the broad equity market. The speed of these market reactions is rapid with the equity market reaching a new equilibrium within fifteen minutes. In contrast to these results, the analysis also shows a positive relationship exists between equity market returns and changes in expectations about future monetary policy. Taken together, these results regarding price changes (returns) suggest that the price discovery process in the equity markets is dominated by the realization of expectations and not market expectations per se. Meanwhile, the volatility analysis suggests a volatility spike follows both FOMC announcements and real-time changes in expectations, but the duration of these spikes is relatively short-lived and dampens out within one hour.