Working Paper: NBER ID: w29837
Authors: Gustavo S. Cortes; Angela Vossmeyer; Marc D. Weidenmier
Abstract: U.S. stock volatility is 25 percent lower during wartime and periods of conflict, including World War II. Schwert (1989) identified the “war puzzle” as a surprising fact from two centuries of realized stock volatility data. We hypothesize that stable demand from defense spending makes corporate America’s cash flows easier to forecast during wartime. Using new hand-collected data on 100 years of military spending, we document that defense outlays reduce aggregate, sector- and state-level stock volatility. Firm-level event studies of recent U.S. military conflicts demonstrate that equity analysts’ earnings forecasts of procurement-intensive companies became significantly less dispersed in the aftermath of 9/11 and the invasion of Iraq.
Keywords: stock volatility; military spending; defense expenditures; war puzzle
JEL Codes: E30; G1; H56; N12
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| U.S. Defense Spending (H56) | Global Stock Volatility (G17) |
| Military Spending (H56) | Reduced Uncertainty in Profit Forecasts (G17) |
| Reduced Uncertainty in Profit Forecasts (G17) | Lower Stock Volatility (G17) |
| Military Spending (H56) | Lower Stock Volatility (G17) |
| Navy, Air Force, and Other Defense Agencies Spending (H56) | Reduced Aggregate Stock Volatility (G17) |
| Army Spending (H56) | Stock Volatility (G17) |
| Military Spending (H56) | Less Dispersion in Earnings Forecasts for Defense Firms (G17) |
| Military Spending (H56) | Stabilized Expectations for Defense Firms (H56) |