U.S. stock markets and the role of real interest rates

• We address response of stock markets to oil prices, exchange rates and real interest rates.
• We construct ex-ante U.S. real interest.
• We find stronger linkages in the more recent period.
• Real interest rates have become continuously negative, helping cash flows.
• Vine copulas identify dependence structure across different markets, helping investors.

Using weekly data from January 3, 2003 to March 27, 2015, we examine the responses of U.S. stock returns (S&P 500, DJIA, and NASDAQ) to monetary policy, controlling for WTI oil prices and the value of the U.S. dollar (USD) against major currencies. Based on differences between the federal funds rate and inflation expectations, U.S. real interest rates have become continuously negative since January 28, 2009. Vector auto-regressions (VARs) suggest stronger linkages more recently and vine copula models identify the structure of dependence across these markets, which can help investors optimize portfolio diversification.