A time-varying copula approach for constructing a daily financial systemic stress index |
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| Affiliation: | 1. Department of Accounting, Finance and Economics, American College of Greece (Deree), Gravias Street, 6, 15342 Athens, Greece;2. Department of International and European Studies, University of Macedonia, Egnatias 156, 54006 Thessaloniki, Greece;1. Department of Quantitative Methods, University of Las Palmas de Gran Canaria, Spain;2. Complutense Institute for Economic Analysis (ICAE), Complutense University of Madrid, Spain;3. Institute of Tourism and Sustainable Economic Development (TIDES), University of Las Palmas de Gran Canaria, Spain |
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| Abstract: | This paper develops a financial systemic stress index (FSSI) for the US financial market. We propose a time-varying copula method to model the dependence structure among financial sectors in order to build a correlated financial stress model that can signal systemic financial risks. The copula method is preferable to the traditional approach, enabling the modeling of non-linear correlations. Our analyses show that the dependencies across banking, security, and forex markets are best modeled by Archimedian copulas. Finally, we conduct a Markov Switching Autoregressive (MS-AR) model for FSSI and identify high financial stress episodes taking place in 2008–2009, 2011 and 2020. |
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| Keywords: | Financial stress index Copula Time-varying dependence Systemic stress Financial crisis |
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