The effect of uncertainty on the information content of term spread and its components

Abstract

Purpose – This paper aims to investigate the impact of uncertainty on the predictive power of term spread and its components for future stock market returns and economic activity in Korea and the USA. This paper finds that the stock market’s expected excess return and growth of economic activity are positively related to the risk-neutral expectation, one of the term spread’s components, particularly during high uncertainty periods. These findings are consistent with the importance of the monetary policy by the central bank in a high uncertainty environment created by unexpected shocks. The results are robust to alternate definitions of high uncertainty periods.

Keywords

• term structure of interest rate
• economic policy uncertainty
• monetary and interest rate policies
• stock market
• economic activity
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