Asymmetric volatility and risk in equity markets

It appears that volatility in equity markets is asymmetric:returns and conditional volatility are negatively correlated.We provide a unified framework to simultaneously investigateasymmetric volatility at the firm and the market level and toexamine two potential explanations of the asymmetry: leverageeffects and volatility feedback. Our empirical application usesthe market portfolio and portfolios with different leverageconstructed from Nikkei 225 stocks. We reject the pure leveragemodel of Christie (1982) and find support for a volatility feedbackstory. Volatility feedback at the firm level is enhanced bystrong asymmetries in conditional covariances. Conditional betasdo not show significant asymmetries. We document the risk premiumimplications of these findings.     

Common stochastic trends and volatility in Asian-Pacific equity markets

This paper uses Johansen's cointegration test and a modified cointegration test with generalized autoregressive conditional heteroskedasticity (GARCH) effects to examine linkages between the U.S. and five Asian-Pacific stock markets (Australia, Hong Kong, Japan, Malaysia, and Singapore) during the period from 1988 to 1994. The modified cointegration test with GARCH effects is used to assess whether these stock price series share common time-varying volatility. The results indicate that the six stock markets are highly integrated through the second moments of stock returns but not the first moments.     

Causality in volatility and volatility spillover effects between US, Japan and four equity markets in the South China Growth Triangular

In examining co-movement across international stock markets, previous researchers usually pre-determine the direction of causation and neglect the Chinese equity markets. In this study, we examine the spillover effects of volatility among the two developed markets and four emerging markets in the South China Growth Triangular using Chueng and Ng's causality-in-variance test. Several findings deserve mention: (1) the Japanese stock market affects the US stock market and there is a feedback relationship between the Hong Kong and US stock market. (2) Markets of the SCGT are contemporaneously correlated with the return volatility of the US market. (3) Econometric models constructed according to the results of variance-in-causality tests have greater explanatory power than the conventional GARCH(1,1) model. (4) Using the return volatility of foreign exchange as a proxy for informational arrival can explain excess kurtosis of a stock return series, especially for the less open emerging market. (5) Geographic proximity and economic ties do not necessarily lead to a strong relationship in volatility across markets.     

Asymmetry in return and volatility spillover between equity and bond markets in Australia

We document asymmetry in return and volatility spillover between equity and bond markets in Australia for daily returns during the period 1992–2006 using a bivariate GARCH modelling approach. Negative bond market returns spillover into lower stock market returns whereas good news originating in the equity market leads to lower bond returns. Bond market volatility spills over into the equity market but the reverse is not true. Transmission of bond volatility into equity volatility depends in a complex way upon the respective signs of the return shocks in each market.     

The relation between implied and realised volatility in the Danish option and equity markets

We show that the conclusions to be drawn concerning the informational efficiency of illiquid options markets depend critically on whether one carefully recognises and appropriately deals with the econometrics of the errors‐in‐variables problem. This paper examines the information content of options on the Danish KFX share index. We consider the relation between the volatility implied in an option's price and the subsequently realised index return volatility. Since these options are traded infrequently and in low volumes, the errors‐in‐variables problem is potentially large. We address the problem directly using instrumental variables techniques. We find that when measurement errors are controlled for, call option prices even in this very illiquid market contain information about future realised volatility over and above the information contained in historical volatility.     

Long-term effects of the asymmetry and persistence of the prediction of volatility: Evidence for the equity markets of Latin America

This article proposes an extension to the CGARCH model in order to capture the characteristics of short-run and long-run asymmetry and persistence, and examine their effects in modeling and forecasting the conditional volatility of the stock markets from the region of Latin America during the period from 2 January 1992 to 31 December 2014. In the sample analysis, the estimation results of the CGARCH-class model family reveal the presence of short-run and long-run significant asymmetric effects and long-run persistency in the structure of stock price return volatility. The empirical results also show that the use of symmetric and asymmetric loss functions and the statistical test of Hansen (2005) are sound alternatives for evaluating the predictive ability of the asymmetric CGARCH models. In addition, the inclusion of long-run asymmetry and long-run persistency in the variance equation improves significantly the out of sample volatility forecasts for emerging stock markets of Argentina and Mexico.     

Stock returns and volatility following the September 11 attacks: Evidence from 53 equity markets

September 11 attacks matter, and why not? Given that globalization has integrated financial markets, the magnitudes of the effect of the September 11 attacks on global markets are expected to be pervasive. We used data from 53 equity markets to investigate the short term impact of the September 11 attacks on markets' returns and volatility. Our empirical findings indicate that the impact of the attacks resulted in significant increases in volatility across regions and over the study period. However, stock returns experienced significant negative returns in the short-run but recovered quickly afterwards. Nevertheless, we find that the impact of the attacks on financial markets varied across regions. The implication here is that the less integrated regions (e.g., Middle East and North Africa) are with the international economy, the less exposed they are to shocks.     

Volatility linkages of the equity,bond and money markets: an implied volatility approach

This study proposes an alternative approach for examining volatility linkages between Standard & Poor's 500, Eurodollar futures and 30 year Treasury Bond futures markets using implied volatility from the three markets. Simple correlation analysis between implied volatilities in the three markets is used to assess market correlations. Spurious correlation effects are considered and controlled for. I find that correlations between implied volatilities in the equity, money and bond markets are positive, strong and robust. Furthermore, I replicate the approach of Fleming, Kirby and Ostdiek (1998) to check the substitutability of the implied volatility approach and find that the results are nearly identical; I conclude that my approach is simple, robust and preferable in practice. I also argue that the results from this paper provide supportive evidence on the information content of implied volatilities in the equity, bond and money markets.     

Return and volatility dynamics among four African equity markets: A multivariate VAR-EGARCH analysis

A multivariate VAR-EGARCH is used to examine the returns and volatility dynamics between thin-traded adjusted equity returns from Ghana, Kenya, Nigeria and South Africa. The findings suggest a reciprocal return spillover between Ghana and Kenya, and between Nigeria and South Africa. In addition, Nigeria appears to be the source of volatility innovations in Ghana, Kenya and South Africa. Own market volatility is pronounced, and volatility is highly persistent in all four markets with Ghana, Kenya and South Africa exhibiting volatility asymmetry.     

The bias in Black-Scholes/Black implied volatility: An analysis of equity and energy markets

In this paper we examine the extent of the bias between Black and Scholes (1973)/Black (1976) implied volatility and realized term volatility in the equity and energy markets. Explicitly modeling a market price of volatility risk, we extend previous work by demonstrating that Black-Scholes is an upward-biased predictor of future realized volatility in S&P 500/S&P 100 stock-market indices. Turning to the Black options-on-futures formula, we apply our methodology to options on energy contracts, a market in which crises are characterized by a positive correlation between price-returns and volatilities: After controlling for both term-structure and seasonality effects, our theoretical and empirical findings suggest a similar upward bias in the volatility implied in energy options contracts. We show the bias in both Black-Scholes/Black implied volatilities to be related to a negative market price of volatility risk. JEL Classification G12 · G13     

Dynamic linkages among equity markets in the Middle East and North African countries

The relaxation of security laws and regulations in emerging markets in the Middle East and North Africa (MENA) provides abundant opportunities for foreign investors. These markets exhibit high-expected returns and substantial volatility. In this paper, we investigate the lead/lag relationship between the MENA countries and regions. We find no market causality or spillover from one country to another in the North Africa region. Our results for the Levant region reveal that there are linkages between stock markets in this region. The results for the Gulf Cooperation Council (GCC) region show that there is more interaction and linkage in the GCC region than in the North Africa and Levant regions. An unexpected result is that UAE's stock market leads all the markets in this region. Finally, we investigate linkages among the three regions. We find that GCC influences the other two regions.     

An empirical examination of jump risk in asset pricing and volatility forecasting in China's equity and bond markets

Understanding jump risk is important in risk management and option pricing. This study examines the characteristics of jump risk and the volatility forecasting power of the jump component in a panel of high-frequency intraday stock returns and four index returns from Shanghai Stock Exchange. Across portfolio indexes, jump returns on average account for 45% to 64% of total returns when jumps occur. Market systematic jump risk is an important pricing factor for daily returns. The average jump beta is 62% of the average continuous beta for individual stocks. However, the contribution of jump risk to total risk is limited, indicating that statistically significant jumps in the stochastic process of asset price are rare events but have tremendous impacts on the prices of common stocks in China. We further document that accounting for jump components improves the performance of volatility forecasting for some equity and bond portfolios in China, which is confirmed by in-the-sample and out-of-sample forecasting performance analysis.     

Macroeconomic announcements, volatility, and interrelationships: An examination of the UK interest rate and equity markets

This study investigates the intraday and daily pricing behavior of UK interest rate and equity index futures contracts. The paper initially examines the response of Short Sterling, Long Gilt, and FTSE100 to the release of scheduled macroeconomic announcements before employing dynamic time series techniques in order to reveal the nature of causal transmission patterns between these variables. In brief, short-term interest rates were found to be highly sensitive to indicators of prevailing economic conditions. However, the release of data important in the formation of inflationary expectations had a relatively subdued impact on long-term rates. Announcement effects appear somewhat ambiguous for the stock market. The analysis also reveals the bid-ask bounce and swift mean reversion in volatility to be important behavioral features of the return-generating process. Whilst the three variables appear to be bound by two cointegrating relationships, the tests for lead/lag relationships produce mixed results.     

Equity market integration in emerging Balkan markets

This paper examines long-run relationships among five Balkan emerging stock markets (Turkey, Romania, Bulgaria, Croatia, Serbia), the United States and three developed European markets (UK, Germany, Greece), during the period 2000-2009. Conventional, regime-switching cointegration tests and Monte Carlo simulation provide evidence in favour of a long-run cointegrating relationship between the Balkan emerging markets within the region and globally. Moreover, we apply the Asymmetric Generalized Dynamic Conditional Correlation (AG-DCC) multivariate GARCH model of Cappiello et al. (2006), in order to capture the impact of the 2007-2009 financial crisis on the time-varying correlation dynamics among the developed and the Balkan stock markets. Results show that stock market dependence is heightened, supporting the herding behaviour during the 2008 stock market crash period. Our findings have important implications for international portfolio diversification and the effectiveness of domestic policies, as these emerging markets are exposed to external shocks.     

Price limits in futures markets: effects on the price discovery process and volatility

Price limits are actively employed by many futures exchanges as a regulatory mechanism directed at reducing volatility and improving price discovery process. The aim of this paper is to investigate whether price limits achieve these goals without affecting market liquidity for a number of agricultural futures contracts. We employ models of changing volatility in order to show that price limits do not appear to significantly reduce market volatility. In addition, we find evidence confirming the hypothesis that price limits delay price discovery instead of facilitating it. Our results also suggest that the impact of price limits on volatility and price reversals, found in previous studies, are mainly due to the properties inherent to the futures returns, such as volatility clustering. Finally, although trading decreases significantly due to the price limits, traders do not seem to switch from the contracts affected by price limits to other maturities in order to minimize the impact of circuit breakers.     

Asymmetric volatility in the foreign exchange markets

We examine the presence or absence of asymmetric volatility in the exchange rates of Australian dollar (AUD), Euro (EUR), British pound (GBP) and Japanese yen (JPY), all against US dollar. Our investigation is based on a variant of the heterogeneous autoregressive realized volatility model, using daily realized variance and return series from 1996 to 2004. We find that a depreciation against USD leads to significantly greater volatility than an appreciation for AUD and GBP, whereas the opposite is true for JPY. Relative to volatility on days following a positive one-standard-deviation return, volatility on days following a negative one-standard-deviation return is higher by 6.6% for AUD, 6.1% for GBP, and 21.2% for JPY. The realized volatility of EUR appears to be symmetric. These results are robust to the removal of jump component from realized volatility and the sub-samplings defined by structural-changes. The asymmetry in AUD, GBP and JPY appears to be embedded in the continuous component of realized volatility rather than the jump component.     

Financial liberalization and changes in the dynamic behaviour of emerging market volatility: Evidence from four Latin American equity markets

This paper examines whether the dynamic behaviour of stock market volatility for four Latin American stock markets (Argentina, Brazil, Chile and Mexico) and a mature stock market, that of the US, has changed during the last two decades. This period corresponds to years of significant financial and economic development in these emerging economies during which several financial crises have taken place. We use weekly data for the period January 1988 to July 2006 and we conduct our analysis in two parts. First, using the estimation of a Dynamic Conditional Correlation model we find that the short-term interdependencies between the Latin America stock markets and the developed stock market strengthened during the Asian, Latin American and Russian financial crises of 1997–1998. However, after the initial period of disturbance they eventually returned to almost their initial (relatively low) levels. Second, the estimation of a SWARCH-L model reveals the existence of more than one volatility regime and we detect a significant increased volatility during the period of crisis for all the markets under examination, although the capital flows liberalization process has only caused moderate shifts in volatility.     

Procyclical volatility in Chinese stock markets

Review of Quantitative Finance and Accounting - We investigate the macroeconomic determinants of stock market volatility in China using the two-component GARCH-MIDAS model of Engle et al....     

Volume and skewness in international equity markets

We examine the relation between trading volume and skewness in 11 international stock markets using daily and monthly data from January 1980 to August 2004. We construct single equation and VAR models of the relation between the first three moments of market returns and trading volumes. Our results show hitherto unrecognised channels of influence, and support the investor heterogeneity approach to explaining return asymmetries.     

Diversity and relative arbitrage in equity markets

An equity market is called diverse if no single stock is ever allowed to dominate the entire market in terms of relative capitalization. In the context of the standard Itô-process model initiated by Samuelson (1965) we formulate this property (and the allied, successively weaker notions of weak diversity and asymptotic weak diversity) in precise terms. We show that diversity is possible to achieve, but delicate. Several examples are provided which illustrate these notions and show that weakly-diverse markets contain relative arbitrage opportunities: it is possible to outperform or underperform such markets over any given time-horizon. The existence of this type of relative arbitrage does not interfere with the development of contingent claim valuation, and has consequences for the pricing of long-term warrants and for put-call parity. Several open questions are suggested for further study.Received: January 2004, Mathematics Subject Classification (2000): 60H10, 91B28; 60J55JEL Classification: G10We are grateful for the helpful remarks offered by seminar audiences at Columbia, Yale, Princeton, the Sloan School of MIT, Boston University, the Mathematical Institute in Oberwolfach, and the Universities of Athens, Connecticut/Storrs and Texas/Austin. Special thanks go to Professors Jérôme Detemple, Julien Hugonnier, Ralf Korn, Andrew Lo, Mark Lowenstein and Steven Shreve. We are also indebted to Dr. Adrian Banner for a number of discussions that helped sharpen our thinking about these problems, and to the referees and editors for suggestions that improved the exposition. A significant part of this work was completed in the spring semester of 2002, while the second author was on sabbatical leave at the Cowles Foundation for Research in Economics, Yale University. He is grateful to the Foundation for its hospitality.