What if there was a way for investors to not only know a specific day in which stock prices will be moving, but the exact minute? What if that stock movement occurred on a set, predictable, and even published, schedule? You will really dislike hearing that this movement in equity prices has already occurred five times this year, and will happen at least three more.
On September 20th and 21st, the Federal Open Market Committee will meet for its sixth time in 2016. At this meeting, the interest rate target currently pinpointed by the Federal Reserve Governors and voting presidents will again be scrutinized. The September FOMC meeting will feature a committee deliberating on the coattails of a powerful July jobs report; however, still our economy is plagued with low inflation. What is the committee going to decide?
A change in the targeted interest rate would have dire consequences for large equity investments; however, a constant rate, or zero basis point target change, could also have dire consequences on the equity market. Thus, if there is a rate hike, markets move and if there isn’t a rate hike, markets move. This double movement scenario could enable investors to make profits.
My statement comes after completing a study of S&P500 volatility between January 1st, 2000 and December 31st, 2015, while controlling for statement releases (including those during the financial crisis). Between the dates, there is an obvious conclusion that at the end of the two-day meeting, markets are more volatile than other trading days. It is the result of the FED’s course of action that spurs this spike in volatility. However, not only does the market volatility increase, but the data shows that it takes about five days for the volatility to return to its original relaxed state.
On a more granular level, the Federal Reserve releases its statement of the two day FOMC meeting at 2:00pm of the second day of the meeting (the next will be 2:00pm on September 21st). In the next two hours until market close, the S&P500 and Dow Jones Industrial Index show minimal volatility; however, in those first two hours there is major volatility in the banking sector. Bank of America, Citigroup, Goldman Sachs, JP Morgan, and Morgan Stanley are just five of the bank stocks that exhibit shocks in their individual equity prices as a result of the statement release at 2:00pm. The following day, the overall markets begin their aforementioned five-day increase in volatility.
Back in 2003, then Governor, now former Chairman, Ben Bernanke and his colleague Ken Kuttner, released a paper about the equity reactions to the monetary policy of the FED. In a speech about the paper at Widener University, Bernanke said “We find that unanticipated changes in monetary policy affect stock prices not so much by influencing expected dividends or the risk-free real interest rate, but rather affecting the perceived riskiness of the stocks.” A financial crisis and nearly one and a half decades later, Bernanke’s words seem to be outdated as stock prices are moving not in reaction to a realized change in monetary policy, but rather are moving based on the dissection of each word of the FOMC statement regardless of policy change. This new dissection of the vernacular used in the statement releases and potential press conference by the chairperson indicates a yearning for certainty of “perceived riskiness;” thus, investors’ scrutiny shake up the markets.
Looking specifically at this anticipated volatility, investors could capitalize on these scheduled statement releases. The small market movements could allow for big time investors and option traders to see short-lived fluctuations in the equity prices of the biggest banks in the world in the two hours before the close of the markets and increased movements, market wide, for the rest of the week. Furthermore, an unexpected decrease in the interest rate could send stocks, especially in the banking industry, into a downward spiral due to the “unanticipated change” being interpreted as a negative economic indicator. However, such a downturn in the rates seems to be almost impossible at this point in time. A positive rate hike could be indicative of a positive FED outlook on the economy; thus, lifting equity prices, or could result in bond returns rising with equity prices falling. The direction of such volatility movement is unknown, but movement has been occurring for over a decade and a half and will presumably continue.
In the coming weeks, the FED will meet and begin its deliberation. If there is a rate change, there will be volatility implications; even without a rate change, the markets should follow their historical pattern and increase their volatility, opening the door for investors to make rapid profit in the short term.
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