Stock Market Reactions to Macroeconomic Announcements: The Dynamics of the Price Adjustment Process

Abstract: The link between information and changes in asset prices is central to financial economics. A fundamental tenet of market efficiency is that investors react to new information as it arrives, resulting in price changes that reflect investors’ expectations of risk and return. By shedding light on the process by which security prices adjust to the release of macroeconomic announcements, this paper contributes to the understanding of financial markets’ short term reactions to news. It moreover explores the speed at which the market adjusts to these news releases and evaluates algorithmic trading strategies based on market data versus announcement estimations. Extending the existing literature, we analyze the intraday effects of major American macroeconomic announcements on the German DAX Index Future. Our results show that the DAX Index Future reacts quickly and decisively to the macroeconomic news. We also show that the volatility peaks during the 10 to 20 seconds subsequent to the news release but the volatility remains high for at least 600 seconds. With the major price adjustment done as quickly as 20 seconds, it is questionable if there is enough data to create a reliable momentum strategy based on the market reaction, and still earn excess return. A possible solution may be to build an algorithm that takes both the Expectation Error and some initial market data into account to give more strength to the buy or sell signal.