The Pre-FOMC Announcement Drift and Private Information: Kyle Meets Macro-Finance
2020 Papers from Job Market Papers
This paper proposes and tests the private information explanation for the time series of pre-FOMC announcement drift. I document the informed trading is in the same direction of the realized returns in the 24-hour window before FOMC announcements, coinciding with the pre-FOMC uncertainty reduction. I integrate Kyle's (1985) model into a standard consumption-based asset pricing framework where the market makers are compensated for the risk of assets' fundamentals. Observing aggregate order flow, they update the belief about the marginal utility-weighted asset value, which resolves uncertainty gradually and results in an upward drift in market prices before announcements. I demonstrate that there is a strictly positive pre-FOMC drift if and only if the market makers require risk compensation.
JEL-codes: E44 G12 G14 (search for similar items in EconPapers)
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Persistent link: https://EconPapers.repec.org/RePEc:jmp:jm2020:pyi149
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