The Pre-FOMC Announcement Drift and Private Information: Kyle Meets Macro-Finance
74 Pages Posted: 3 Aug 2020 Last revised: 31 Dec 2021
Date Written: July 8, 2020
Abstract
This paper studies the private information explanation for the timing and time series of the pre-
FOMC announcement drift. I document informed trading is in the same direction as the realized
returns in the 24-hour window before FOMC. I extend Kyle’s (1985) model to be the case where
market makers are compensated for the riskiness of assets’ fundamentals. Observing aggregate
order flow, market makers update their belief about the marginal-utility-weighted asset value,
which gradually resolves uncertainty, resulting in an upward drift in market prices. I demonstrate
a strictly positive pre-FOMC announcement drift if and only if market makers require risk
compensation.
Keywords: Pre-FOMC Announcement Drift, Uncertainty Resolution, Private Information, Risk Compensation
JEL Classification: G14, E44, G12
Suggested Citation: Suggested Citation