Are Stocks Cheap? A Review of the Evidence

Fernando Duarte and Carlo Rosa

We surveyed banks, we combed the academic literature, we asked economists at central banks. It turns out that most of their models predict that we will enjoy historically high excess returns for the S&P 500 for the next five years. But how do they reach this conclusion? Why is it that the equity premium is so high? And more importantly: Can we trust their models?

Do Treasury Term Premia Rise around Monetary Tightenings?

Tobias Adrian, Richard Crump, and Emanuel Moench

Some commentators have expressed concern that Treasury yields might rise sharply once the Federal Open Market Committee (FOMC) begins to raise the federal funds rate (FFR), worrying, in particular, about a sudden increase in Treasury term premia. In this post, we analyze the dynamics of Treasury term premia over the last fifty years and discuss their evolution around recent tightening cycles, paying special attention to the 1994 episode when bond prices dropped sharply around the world. We find that term premia don’t typically rise when monetary policy tightens. We also conclude, based on the behavior of term premia and survey evidence, that the sharp rise in Treasury yields in 1994 was in large part due to an upward shift in the expected path of future short-term interest rates.

Foreclosures Loom Large in the Region

Jaison R. Abel and Richard Deitz

Households in the New York-northern New Jersey region were spared the worst of the housing bust and have generally experienced less financial stress than average over the past several years. However, as the housing market has begun to recover both regionally and nationally, the region is faring far worse than the nation in one important respect—a growing backlog of foreclosures is resulting in a foreclosure rate that is now well above the national average. In this blog post, we describe this outsized increase in the region’s foreclosure rate and explain why it has occurred. We then discuss why the large build-up in foreclosures could cause a headwind for home-price gains in the region.

I Want My Money Now: The Highs and Lows of Payments in Real Time

Parinitha Sastry and David Skeie

Peel back the layers of complex financial institutions and instruments, and you're left with individuals demanding to be paid, and to be paid quickly. Payments are the electricity that powers the entire financial system. The ability to securely send and receive timely payments is a prerequisite for commerce and the smooth functioning of financial markets. Despite the seemingly straightforward nature of the subject, a preliminary exploration of payments data offers insight into how institutions react to changing economic conditions. In this post, we aim to investigate recent volatility in the amount of payments, particularly during the recent financial crisis. We focus on estimating and extracting changing levels of payments required for interbank lending, which reflect banks’ varying needs for liquidity. We find that variables capturing macroeconomic conditions and financial market stress are additional large drivers of fluctuations in payments.

How Liquid Is the Inflation Swap Market?

Michael Fleming and John Sporn

Inflation swaps are used to transfer inflation risk and make inferences about the future course of inflation. Despite the importance of this market to inflation hedgers, inflation speculators, and policymakers, there is little evidence on its liquidity. Based on an analysis of new and detailed data in this post we show that the market appears reasonably liquid and transparent despite low trading activity, likely reflecting the high liquidity of related markets for inflation risk. In a previous post, we examined similar issues for the broader interest rate derivatives market.

A New Approach for Identifying Demand and Supply Shocks in the Oil Market

Jan Groen, Kevin McNeil, and Menno Middeldorp

An oil-price spike is often used as the textbook example of a supply shock. However, rapidly rising oil prices can also reflect a demand shock. Recognizing the difference is important for central bankers. A supply-driven increase in the price of oil can result in higher unemployment and inflation, leaving central bankers with the difficult decision to loosen policy, tighten policy, or not respond at all. A demand-driven increase reflecting global growth may support the case for tighter policy. In this post, we describe an approach for decomposing oil price changes into supply and demand shocks using financial market data.

How the Nation Resolved Its First Debt Ceiling Crisis

Kenneth Garbade

Note: This post draws on many sources contemporary with the events described, including various Treasury and Federal Reserve publications and news articles from the Wall Street Journal and the New York Times. These sources are fully documented in the PDF version of the post.

In the second half of 1953, the United States, for the first time, risked exceeding the statutory limit on Treasury debt. How did Congress, the White House, and Treasury officials deal with the looming crisis? As related in this post, they responded by deferring and reducing expenditures, by monetizing “free” gold that remained from the devaluation of the dollar in 1934, and ultimately by raising the debt ceiling.

Primary Dealers’ Waning Role in Treasury Auctions

Michael Fleming and Sean Myers

On December 12, 2012, primary government securities dealers bought just 33 percent of the new ten-year Treasury notes sold at auction. This was one of the lowest shares on record and far below the 68 percent average for ten-year notes reported in this 2007 study by Fleming. In this post, we examine recent data on the buyers of Treasury securities at auction to understand whether the December 12 results are part of a trend and, if so, what explains it.

A “Reference Price Auction” to Buy or Sell Different Assets Simultaneously

Olivier Armantier

In finance, auctions are often conducted to buy or sell simultaneously various assets with very different characteristics. These auctions raise a number of challenges that cannot always be addressed with standard auction designs. In this post, I discuss an alternative design—the “reference price auction”—and present evidence that it may dominate other methods often implemented in practice.

Just Released: Money and Payments Workshop Examines Financial Market Structure

Thomas Eisenbach

We’ve recently posted the proceedings of an October 19 Money and Payments Workshop that brought together researchers from central banks and academia as well as practitioners to discuss the importance of financial market structure. The agenda included items hotly debated since the recent financial crisis, including central clearing, over-the-counter markets, “dark pools,” and network structures. The main theme of the workshop was the effect that market structure has on the incentives of the parties involved, the liquidity of the transactions conducted, and the efficiency of the economic outcomes achieved. This post briefly describes the six papers presented.