Keywords: Futures rates, monetary policy expectations, risk premia
Abstract: Federal funds and eurodollar futures contracts are among the most useful
instruments for deriving expectations of the future path of monetary
policy. However, reading policy expectations from those instruments is
complicated by the presence of risk premia. This paper demonstrates how to
extract the expected policy path under the assumption that risk premia are
constant over time, and under a simple model that allows risk premia to
vary. In the latter case, the risk premia are identified under the
assumption that policy expectations level out after a long enough horizon.
The results provide evidence that the risk premia on these futures
contracts vary over time. The impact of this variation is fairly limited
for futures contracts with short horizons, but it increases as the horizon
of the contracts lengthens.
Full paper (481 KB PDF)
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Last update: December 23, 2002