Resolving Macroeconomic Uncertainty In Stock And Bond Markets

This paper establishes an empirical link between the ex-ante uncertainty about macroeconomic fundamentals and the ex-post resolution of this uncertainty in financial markets. It measures macroeconomic uncertainty using prices of economic derivatives and relate this measure to changes in implied volatilities of stock and bond options when the economic data is released. It also examines the relationship between macroeconomic uncertainty and trading activity in stock and bond option markets before and after the announcements. Higher macroeconomic uncertainty is associated with greater reduction in implied volatilities following the news release. Higher macroeconomic uncertainty is also associated with increased volume in option markets and with decreased open interest in option markets after the release, consistent with market participants using financial options to hedge or speculate on macroeconomic uncertainty. The empirical relationships are strongest for long-term bonds and weakest for non-cyclical stocks.