The role of monetary policy uncertainty in predicting equity market volatility of the United Kingdom : evidence from over 150 years of data

Abstract

Theory suggests a strong link between monetary policy rate uncertainty and equity return volatility, since asset pricing models assume the risk-free rate to be a key factor for equity prices. Given this, our paper uses historical monthly data for the United Kingdom over 1833:01 to 2018:07, to show that monetary policy uncertainty increases stock market volatility within sample, which in turn continues to hold under various robustness analyses. In addition, we show that the information on monetary policy uncertainty also adds value to forecasting out-of-sample equity market volatility.