Abstract
Purpose This paper aims to investigate the impact of uncertainty on the predictive power of term spread and its components for future stock market returns and economic activity in Korea and the USA. This paper finds that the stock market’s expected excess return and growth of economic activity are positively related to the risk-neutral expectation, one of the term spread’s components, particularly during high uncertainty periods. These findings are consistent with the importance of the monetary policy by the central bank in a high uncertainty environment created by unexpected shocks. The results are robust to alternate definitions of high uncertainty periods.
Highlights
The Fed’s Message: The Money-Printing Presses Are Fired Up and Ready to Go [. . .] It’s really two distinct crises the Fed is trying to solve, with overlapping tools
Based on the term premium and risk-neutral expectation estimated by the ACM model, we analyze the predictive power of the term spread and its components for future stock market returns and economic activity depending on the level of uncertainty
This study investigates how the predictive power of the term spread and its components on the stock market and economic activity vary with the level of economic or policy-related uncertainty
Summary
The Fed’s Message: The Money-Printing Presses Are Fired Up and Ready to Go [. . .] It’s really two distinct crises the Fed is trying to solve, with overlapping tools. Based on the term premium and risk-neutral expectation estimated by the ACM model, we analyze the predictive power of the term spread and its components for future stock market returns and economic activity depending on the level of uncertainty. We analyze the regression results of one-, three-, six- and 12-month stock market returns or growth of industrial production index and coincident economic activity index in Korea and the USA
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