The impact of the federal funds rate on an investor’s return


  • Ikhlaas Gurrib School of Graduate Studies at the Canadian University of Dubai, United Arab Emirates.



Federal funds rate, Market index returns, Pre and post financial crisis.


The study aims to analyze stock price movements of the world’s widely used index S&P 500 and the rapid growing economy index of Dubai Financial Market (DFM). While UAE adopts a similar monetary policy to the US due to the pegging of the two countries’ currencies, UAE’s GDP and financial markets have been witnessing more robust performance since the financial crisis, raising the issue as to whether following monetary policy actions set by the Federal Reserve Bank is beneficial to the UAE financial markets. The paper investigates the effect of changes in Federal Funds Rate (FFR) on the domestic U.S. market returns studied through S&P 500 and the international UAE DFM market returns observed through DFM index. The models under analysis not only look at the effect of changes in the FFR on market indices’ returns, but also whether U.S. monetary policy reversals have a stronger effect than other changes, by imposing a dummy variable adjustment to the model. As part of robustness testing, further analysis is carried out by defragmenting the data into the pre and post financial crisis of 2008.  Findings suggest that the DFM index is highly sensitive to the change in FFR compared to S&P 500 index. Compared to the pre financial crisis, both the S&P500 Index and DFM Index are significantly affected by positive changes in the FFR.  Positive changes in the FFR tend to affect the DFM returns more negatively than S&P500 Returns, suggesting any future positive change in FFR would affect the financial markets negatively, by pulling prices down globally.


Bae SC, 1990. Interest rate changes and common stock returns of financial institutions: Revisited. Journal of Financial Research, 13: 71-79.

Bernanke BS and Kuttner KN., 2005. What explains the stock market's reaction to Federal Reserve Policy? The Journal of Finance, 60: 1221–1257. doi: 10.1111/j.1540-6261.2005.00760.x

Craine R and Martin VL., 2008. International monetary policy surprise spillovers. Journal of International Economics, 75(1): 180-196. (March 2014). Daily summary of DFM PJSC. Retrieved from:

Economist (September 2013). The meaning of Lehman, Sep 26th 2013, Economist. Retrieved from:

Effective Federal Funds Rate (2014). Effective Federal Funds Rate: Overview. Retrieved from:

Elyasiani E and Mansur I., 2003. International spill over of risk and return among major banking institutions: A bivariate GARCH model. Journal of Accounting, Auditing & Finance, 18(2): 303-330.

Faff RW and Howard PF., 1999. Interest rate risk of Australian financial sector companies in a period of regulatory change. Pacific-Basin Finance Journal, 7: 83-103.

Fama EF and French KR., 2004. The Capital Assets Pricing Model: theory and evidence. Journal of Economic Perspectives, 25-46.

Flannery MJ and James CM., 1984. The effect of Interest rate changes on the common stock returns of financial institutions. Journal of Finance, 39: 1141-1153.

Garg K., 2008. The effect of changes in the Federal Funds Rate on stock Markets: A sector-wise analysis. Undergraduate Economic Review, 4(1).

Grouard MH., Levy S., and Lubochinsky C., 2003. Stock market volatility: From empirical data and their interpretation. FSR, Banque de France, 57-74.

Hegwood N and Tuttle MH., 2013. Did the mortgage interest rate fail to respond to Federal Funds Rate Changes: Testing for a short-run break, 2002-2005. Journal of Money Banking, and Finance, 1(1): 13-26.

Koba M., 2012. Federal Funds Rate: CNBC explains. CNBC. Retrieved from:

Madura J and Zarruk ER., 1995. Bank exposure to interest rate risk: a global perspective. Journal of Financial Research, 18, 1-13.

Mahn K., 2014. Fed On Target To Raise Interest Rates In The Spring Of 2015. Seeking Alpha. Retrieved from:

MSCI (May 2012). How to calculate returns from daily closing prices in Excel. Retrieved

Newyork Fed. (April 2014). Federal Reserve Bank of New York, Retrieved from:

Sweeney RJ and Warga AD., 1986. The pricing of interest rate risk: Evidence from the stock market. Journal of Finance, 14: 393-410.

Tai CS., 2000. Time varying market, interest rate, and exchange rate risk premia in the US commercial bank stock returns. Journal of Multinational Financial Management, 10: 397-420.

Taibbi M., 2010. Griftopia: bubble machines, vampire squids, and the long con that is breaking America. Spiegel & Grau, 35–36. ISBN 978-0-385-52995-2.

Thornton DL, 2000. The relationship between the federal funds rate and the Fed's federal funds rate target: Is it open market or open mouth operations? Working Papers 1999-022, Federal Reserve Bank of St. Louis.

Yahoo Finance (March 2014). Historical data of ^GSPC. Retrieved from:;range=

Yin H and Yang J., 2013. The sensitivity of non-U.S. bank stock returns to changes of monetary policy. Journal of Applied Finance & Banking, 3(6): 25-43.