Recovering Market Expectations of FOMC Rate Changes with Options on Federal Funds Futures

dig.v36.n2
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CFA Digest
May 2006 | Vol. 36 | No. 2 | 2 pages
Source: CFA Institute
John B. Carlson Ben R. Craig William R. Melick
Frank T. Magiera, CFA (Reviewer)

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Summary

U.S. Federal Open Market Committee (FOMC) meetings command a great deal of attention because at these meetings changes occur in the federal funds rate. Analysts have used a variety of means to estimate the probability and amount of any potential rate change, such as extracting estimates from the prices of federal funds futures contracts. The authors describe a technique that uses prices of traded options on federal funds futures contracts to recover the implied probability density function (PDF) for future FOMC interest rate decisions. This relatively simple method provides PDFs for individual and multiple FOMC meetings. The techniques should help market analysts determine the market consensus view of the future stance of monetary policy.

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