Monetary policy effects in times of negative interest rates

Thursday 4 February 2021

A picture of monetary policy

Author: Robert Starkey, CFA

Robert Starkey, CFA, from the CFA UK Investment Studies Working Group, summarises the De Nederlandsche Bank working paper Monetary policy effects in times of negative interest rates: What do bank stock prices tell us?


This paper investigates whether there is directionality to bank stock prices in response to moves in interest rates. After controlling for broad stock market movements, this paper finds that bank stock prices react negatively to an unanticipated downward shift in the yield curve and specifically a flattening of the shorter-end of the yield curve resulting from monetary policy announcements – this finding is applicable for low and negative interest rate environments. The authors find that surprise movements in the long end of the curve don’t impact bank stock prices. The result is that when demand deposits have a zero-lower-bound rate while market interest rates are negative, monetary policy instruments that target the longer-end of the yield curve are less detrimental to bank performance than short-term rate policy adjustments.

What is the investment issue?

In a low and negative interest rate world, bank stock prices reflect profitability of the institutions and their ability to take profit on intertemporal transformation of money via lending. Low and negative interest rates have the potential to reduce the net interest margin and profitability of banks. Understanding potential movements of the yield curve may result in gaining insight into the profitability of banking institutions.

How did the author’s conduct this research?

The author’s use the Euro Area Monetary Policy Event-Study Database by Altavilla et al. (2019b) for their study, which covers the period January 1999 to January 2020 and apply an event study method to surprises and subsequent price reactions. The authors consider surprises as the difference between the median quote 10 to 20 minutes before the press release and 10 to 20 minutes after the press conference, or alternatively, 15 to 25 minutes after the press release if no press conference took place. Rolling regressions are then employed to analyse the interest rates surprises and the analysis is split into positive and negative earnings surprise cohorts.

What are the findings and implications for investors and investment professionals?

The authors draw the conclusion that the short-end of the yield curve matters more when applying such considerations to a bank’s profitability. The implication for investors is that macro-economic variables and policy actions, while impacting other sectors latently, impact banks directly depending on their nature and business mix. Further impact could also occur via loan books. Investors investing in banks should therefore ensure that they have a view, or at the least know the implications of, macro-economic variables that impact the local central monetary authority policy. It would also be prudent to be aware of what variables the monetary authority utilises in their policy decisions as well as how macro-prudential regulation in banks may also be impacted by said authority.

Limitations of the study

This study is a generalisation across banks and therefore an investor would need to consider the differences in the loan book, net-interest-margins, and credit spread implications for each bank. The study is applied to the ECB Monetary Policy announcements and readers should not assume the findings can automatically be extrapolated to their local economy. The study falls into a period where price stability was prioritised and investors should incorporate potential unexpected outcomes given non-conventional or modern monetary theories have been applied.

View the original paper

Primary Authors:

  • Joost Bats, economist, De Nederlandsche Bank and PhD researcher, University of Amsterdam
  • Massimo Giuliodoir, professor of empirical macroeconomics at the Amsterdam School of Economics, University of Amsterdam
  • Aredt Houben, director financial markets, De Nederlandsche Bank and professor at University of Amsterdam

Review Author:

Picture of Robert Starkey, CFARobert Starkey, CFA, is a Manager Research Analyst at Morningstar.

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