Abstract
I propose an asset pricing model with the market return and a mimicking portfolio for monetary policy shocks measured on days of FOMC announcements. This economically motivated two-factor model prices portfolios formed on size, value, momentum, investment, and operating profitability with an R2 of 80% and an average annual pricing error of 0.96%-performing as well as the standard four- and five-factor models designed to price these assets. These results are consistent with intertemporal asset pricing theory and recent evidence that monetary policy shocks have a large impact on asset prices via an impact on expected future aggregate returns.
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