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What Drives the Dynamic Conditional Correlation of Foreign Exchange and Equity Returns?

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  • Vargas, Gregorio A.

Abstract

This paper establishes the link of microstructure and macroeconomic factors to the time-varying conditional correlation of foreign exchange and excess equity returns. By using the proposed DCC model with exogenous variables, capital flows and interest rate differentials are shown to be significant factors in driving this conditional correlation. Furthermore, using this model it provides evidence of the dynamic behavior of global investors as they seek parity in equity returns between home and foreign markets to reduce exchange rate risks.

Suggested Citation

  • Vargas, Gregorio A., 2008. "What Drives the Dynamic Conditional Correlation of Foreign Exchange and Equity Returns?," MPRA Paper 7174, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:7174
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    References listed on IDEAS

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    13. Matteo Manera & Michael McAleer & Margherita Grasso, 2006. "Modelling time-varying conditional correlations in the volatility of Tapis oil spot and forward returns," Applied Financial Economics, Taylor & Francis Journals, vol. 16(7), pages 525-533.
    14. Engle, Robert F & Sheppard, Kevin K, 2001. "Theoretical and Empirical Properties of Dynamic Conditional Correlation Multivariate GARCH," University of California at San Diego, Economics Working Paper Series qt5s2218dp, Department of Economics, UC San Diego.
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    19. Hafner, C.M. & Franses, Ph.H.B.F., 2003. "A generalized dynamic conditional correlation model for many asset returns," Econometric Institute Research Papers EI 2003-18, Erasmus University Rotterdam, Erasmus School of Economics (ESE), Econometric Institute.
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    Cited by:

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    2. Sofiane Aboura & Julien Chevallier, 2014. "Cross‐market spillovers with ‘volatility surprise’," Review of Financial Economics, John Wiley & Sons, vol. 23(4), pages 194-207, November.
    3. Aboura, Sofiane & Chevallier, Julien, 2015. "Volatility returns with vengeance: Financial markets vs. commodities," Research in International Business and Finance, Elsevier, vol. 33(C), pages 334-354.
    4. repec:dau:papers:123456789/13359 is not listed on IDEAS
    5. Aboura, Sofiane & Chevallier, Julien, 2018. "Tail risk and the return-volatility relation," Research in International Business and Finance, Elsevier, vol. 46(C), pages 16-29.
    6. Sofiane Aboura & Julien Chevallier, 2014. "Cross-Market Spillovers with ‘Volatility Surprise’," Working Papers hal-04141310, HAL.
    7. repec:ipg:wpaper:2014-469 is not listed on IDEAS
    8. Bernardi, Mauro & Catania, Leopoldo, 2018. "Portfolio optimisation under flexible dynamic dependence modelling," Journal of Empirical Finance, Elsevier, vol. 48(C), pages 1-18.
    9. Prange, Philipp, 2021. "Does online investor attention drive the co-movement of stock-, commodity-, and energy markets? Insights from Google searches," Energy Economics, Elsevier, vol. 99(C).
    10. Fiszeder, Piotr & Fałdziński, Marcin & Molnár, Peter, 2023. "Attention to oil prices and its impact on the oil, gold and stock markets and their covariance," Energy Economics, Elsevier, vol. 120(C).
    11. Takashi Kanamura, 2023. "Portfolio diversification and sustainable assets from new perspectives," Journal of Asset Management, Palgrave Macmillan, vol. 24(7), pages 581-600, December.
    12. Koenig, P., 2011. "Modelling Correlation in Carbon and Energy Markets," Cambridge Working Papers in Economics 1123, Faculty of Economics, University of Cambridge.
    13. Mauro Bernardi & Leopoldo Catania, 2016. "Portfolio Optimisation Under Flexible Dynamic Dependence Modelling," Papers 1601.05199, arXiv.org.
    14. Mapa, Dennis S. & Paz, Nino Joseph I. & Eustaquio, John D. & Mindanao, Miguel Antonio C., 2014. "Forecasting Time-Varying Correlation using the Dynamic Conditional Correlation (DCC) Model," MPRA Paper 55861, University Library of Munich, Germany.

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    More about this item

    Keywords

    uncovered equity parity; order flow; ADCCX;
    All these keywords.

    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • F31 - International Economics - - International Finance - - - Foreign Exchange

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