The Effects of Monetary Policy on Bank Stock Returns

     This paper examines the effects of monetary policy shocks on bank stock returns. Using high frequency movements of interest rate futures around Federal Open Market Committee meetings, I find that prior to the zero-lower bound, bank stock returns responded negatively to tightening surprises, which is aligned with conventional wisdom. This effect is magnified by the riskiness of the bank and attenuated by its maturity mismatch and market power. During the zero lower bound, however, there is a reversal effect and bank stock returns responded positively to tightening surprises. I find that bank returns are mostly driven by news about real rates prior to the zero lower bound and mostly by expected cash flows during it.

Investment Channel of Monetary Policy using Credit Spreads

(with Yoshio Nozawa)

This paper studies the heterogeneous effects of the investment channel of monetary policy by exploring differences in the direct cost of firm borrowing. We proxy this cost using credit spreads which reflect information on a firm’s expected default, risk premia, and other credit frictions that exist. While we are able to decompose each firm’s credit spread into expected default and risk premia using micro-level bond data, we are unable to disentangle which matters more for explaining investment sensitivity to monetary policy. Instead, we find that a one standard deviation higher overall credit spread leads to a 2% decline in four quarter ahead investment sensitivity. We attribute this smaller investment response of high risk firms to the unequal pass-through effects to bond yields from expansionary shocks. In response to a 100 basis point expansionary shock, safe firms face a 37 basis point decline in borrowing costs while risky firms face a mere 10 basis point decline. Our results shed light on the role of credit costs in the transmission of monetary policy on investment.

Credit Spreads and Monetary Policy

I investigate the effect of monetary policy surprises on corporate bond spreads. I find that tightening surprises lead to a decline in monthly credit spreads and that this effect is mostly driven by the risk-premium component of spreads. In stark contrast to financial accelerator models which would predict an increase in spreads, I rationalize my results from theories that suggest that tightening surprises convey optimistic information about future economic activity as well as a differential pass-through effect on corporate yields and risk-free rates. In particular, tightening shocks pass-through more to risk-free rates relative to riskier corporate yields which leads to a decline in credit spreads.