Publication: Conditional Correlations and Volatility Spillovers Between Crude Oil and Stock Index Returns
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2011-11
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This paper investigates the conditional correlations and volatility spillovers between the crude oil and financial markets, based on crude oil returns and stock index returns. Daily returns from 2 January 1998 to 4 November 2009 of the crude oil spot, forward and futures prices from the WTI and Brent markets, and the FTSE100, NYSE, Dow Jones and S&P500 stock index returns, are analysed using the CCC model of Bollerslev (1990), VARMA-GARCH model of Ling and McAleer (2003), VARMA-AGARCH model of McAleer, Hoti and Chan (2008), and DCC model of Engle (2002). Based on the CCC model, the estimates of conditional correlations for returns across markets are very low, and some are not statistically significant, which means the conditional shocks are correlated only in the same market and not across markets. However, the DCC estimates of the conditional correlations are always significant. This result makes it clear that the assumption of constant conditional correlations is not supported empirically. Surprisingly, the empirical results from the VARMA-GARCH and VARMA-AGARCH models provide little evidence of volatility spillovers between the crude oil and financial markets. The evidence of asymmetric effects of negative and positive shocks of equal magnitude on the conditional variances suggests that VARMA-AGARCH is superior to VARMA-GARCH and CCC. The estimation and analysis of the volatility and conditional correlations between crude oil returns and stock index returns can provide useful information for investors, oil traders and government agencies that are concerned with the crude oil and stock markets, especially regarding optimal hedging across the two markets.
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The authors are most grateful to a referee for helpful comments and suggestions. For financial support, the first author is most grateful to the National Science Council, Taiwan, the second author thanks the Australian Research Council, National Science Council, Taiwan, and the Japan Society for the Promotion of Science, and the third author acknowledges the Faculty of Economics, Maejo University, Thailand.
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