8 The Impact of Quantitative Easing on Asset Price Comovement

This chapter examines the increased levels of cross-asset price comovement and its relationship with the recent rounds of “extraordinary intervention” from the US Federal Reserve. The results show that, even after controlling for the preceding financial crisis, asset return volatility, investor risk perceptions, and channels of monetary stimulus, historically unrelated financial asset returns experienced abnormal changes in their conditional correlations. The strength of these cross-asset correlations is directly linked to periods of Federal Reserve interventions yet disappear when the interventions were (in fact or were perceived to be) withdrawn. Despite being studied extensively in the academic literature, no traditional intervention channels can explain the changes in cross-comovement. It is proposed that the Fed’s extraordinary stimulus caused investors to use Fed announcements as a common, low-cost information source on which they used to make common portfolio-allocation decisions. The changes in comovement during the intervention period may have reduced investor welfare for those with longer-horizon allocation strategies, those not prepared for the eventual ending of the stimulus, and for underfunded liability-optimizing portfolio managers (e.g., state pension funds).