Short-Rate Expectations and Unexpected Returns in Treasury Bonds

Stock Returns over the FOMC Cycle

“…The fact that high stock returns on even‐week days following stock market declines predict target changes despite no reduction in Fed fund futures rates implies that the economy turned out worse and monetary policy easier ex post than expected ex ante. This interpretation is in line with evidence based on short‐rate expectations from both private‐sector surveys and the Fed's own forecasts in Cieslak ().…”

“…Had everyone foreseen that the economy would be struggling for years after the onset of recession, then we should have seen large drops in futures ex ante. However, Cieslak () shows that ex post the economy turned out substantially worse than expected. Professional forecasters’ expectations of the federal funds rate—and even expectations from the Fed's own Summary of Economic Projections—do not decline “enough” following bad economic news.…”

Expected Inflation and Other Determinants of Treasury Yields

“…Unlike inflation forecasts, survey forecasts of yields are not superior to—or even as accurate as—less subjective forecasts. Cieslak () and Giacoletti, Laursen, and Singleton () show that the martingale assumption produces forecasts that have lower root mean squared errors than consensus survey forecasts. Therefore, the denominator of the inflation variance ratio (7) will be larger when evaluated using survey forecasts than when using martingale forecasts.…”

Nonfinancial Firms as Cross‐Market Arbitrageurs

“…To measure investor sentiment, I use two strategies to capture departures from frictionless markets. One strategy draws on expectations data and deviations of investor expectations from the rational benchmark, building on a growing literature on investor expectations (Amromin and Sharpe (2013), Greenwood and Shleifer (2014), Piazzesi, Salomao, and Schneider (2015), Cieslak (2018)). The other strategy examines deviations from the law of one price (Lee, Shleifer, and Thaler (1991)).…”