Interest Rate Surprises and Stock Prices

This paper examines the impact of unexpected changes in the federal funds target on stock prices from 1988 to 2001. Measures of interest rate surprises are constructed from survey data and changes in the 3-month T-bill yield. I find that surprises associated with decreases in the target cause stock prices to rise significantly. Surprises associated with increases in the target increase stock market volatility on the announcement day, with volatility reverting to pre-surprise levels on the day after the announcement. This volatility pattern is only evident since 1994. An implication is that concerns about immediate disclosure causing persistent and heightened stock market volatility might be misplaced.