Posted: December 10th, 2014

Inferring expectations from market prices

FINANCIAL MARKETS, INSTITUTIONS and INSTRUMENTS (FR1001) COURSEWORK AUTUMN TERM 2014

Inferring expectations from market prices

You are a trader returning to your desk after having been away on a long holiday (over a year). You want to quickly catch up on the news that you have missed. It would

take too long to skim through news sources directly, and even then you would not know how much each piece of news affected investor expectations. Instead you need to

work out how expectations have moved by looking at how prices have moved in different markets.

Expectations play a role in determining many market prices. This means that by looking at market prices in the right way we can assess what investors are expecting

now, and what they were expecting in the past. This is what you must do.
Look at indices for government bonds, corporate bonds and equities. Some derivatives markets are may be useful (there is more on data sources below). Look at data over

around the last five years.
Choose the data series that you think are most useful, and manipulate them so as to best derive information about investor expectations. Explain briefly how this data

reflects expectations for factors such as: future inflation, monetary policy, equity volatility, economic growth, default risk, and other risks.
Note how expectations have changed over this period, and note as explicitly as you can what investors are currently anticipating. Ideally you should aim for statements

such as: “these market prices suggests that investors are expecting x% for this economic indicator”. Where such precision is not possible, you may be able to make more

qualitative comparison (eg. “markets expect higher Y than they did at the start of the year”).
Consider markets within either the UK, the US or the Eurozone (I suggest that you try to stick to just one of these to make life easier for yourselves, but if you find

yourselves unable to get hold of particular data then feel free to comment on the corresponding data for another economy).

This is a group exercise: you may work in groups of between 3 and 5. This will allow you to track down a wider range of sources, and then distil this down into what

are really the key points in each case. Projects may not be submitted by individual students. If you have problems with your groups, let me know soon.

Guideline length is 2,000-2,500 words. If you find yourself going substantially beyond this, I would raise a warning: you may be under the impression that adding more

material must represent an improvement, and would give you more opportunity to show off your diligence and hard work. Think again! An over-long project can easily be

counter-productive. I’m looking for evidence that you can come to a judgement as to what is really important. Excess length and inclusion of unnecessary material can

suggest a lack of judgement, and will be penalised. Include the facts and figures which are relevant to your argument, but don’t include irrelevant detail just because

you have it.

It is up to you how to structure your paper, but a clear introduction and a series of sub-headings are generally helpful. They make it much easier for the reader to

follow your argument. Avoid flashy graphics and formatting – just get the basics right. Use a consistent font and format throughout, make sure that you have used a

spell-checker (set to UK English rather than US English) and proof read the document properly. Hand written submissions will not be marked.

Submission deadline: coursework must be submitted via Moodle or in hard copy to the course office by Monday 1st December (10th week). Extensions will only be granted

in exceptional circumstances. Standard penalties will apply to work submitted late.

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