The response of stock market volatility to futures-based measures of monetary policy shocks

•We investigate the dynamic response of stock market volatility to changes in monetary policy.•Our findings reveal a significant response of stock returns and realized volatility to monetary policy shocks.•Several channels contribute to the short-term increase in volatility. > long-term dynamics of volatility are dominated by fundamentals.•VAR-GARCH estimation results suggest that uncertainty regarding the monetary stance affects stock market volatility.

In this paper, we investigate the dynamic response of stock market volatility to changes in monetary policy. Using a vector autoregressive model, our findings reveal a significant response of stock returns and volatility to monetary policy shocks. While the increase in the volatility risk premium, futures-trading volume and leverage appear to contribute to a short-term increase in volatility, the longer-term dynamics of volatility are dominated by monetary policy's effect on fundamentals. The estimation results from a bivariate VAR-GARCH model suggest that the Fed does not respond to the stock market at a high frequency but that market participants' uncertainty regarding the monetary stance affects stock market volatility.