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On the network topology of variance decompositions: Measuring the connectedness of financial firms

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  • Francis X. Diebold
  • Kamil Yilmaz

Abstract

The authors propose several connectedness measures built from pieces of variance decompositions, and they argue that they provide natural and insightful measures of connectedness among financial asset returns and volatilities. The authors also show that variance decompositions define weighted, directed networks, so that their connectedness measures are intimately-related to key measures of connectedness used in the network literature. Building on these insights, the authors track both average and daily time-varying connectedness of major U.S. financial institutions' stock return volatilities in recent years, including during the financial crisis of 2007-2008.

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Bibliographic Info

Paper provided by Federal Reserve Bank of Philadelphia in its series Working Papers with number 11-45.

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Date of creation: 2011
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Handle: RePEc:fip:fedpwp:11-45

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Keywords: Portfolio management ; Systemic risk ; Risk management;

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  1. Franklin Allen & Ana Babus & Elena Carletti, 2010. "Financial Connections and Systemic Risk," Economics Working Papers, European University Institute ECO2010/30, European University Institute.
  2. Francis X. Diebold & Kamil Yilmaz, 2007. "Measuring Financial Asset Return and Volatility Spillovers, With Application to Global Equity Markets," PIER Working Paper Archive, Penn Institute for Economic Research, Department of Economics, University of Pennsylvania 07-002, Penn Institute for Economic Research, Department of Economics, University of Pennsylvania.
  3. Jean-Marie Dufour & Abderrahim Taamouti, 2008. "Short and long run causality measures: theory and inference," Economics Working Papers, Universidad Carlos III, Departamento de Economía we083720, Universidad Carlos III, Departamento de Economía.
  4. Marcella Lucchetta & Gianni De Nicoló, 2012. "Systemic Real and Financial Risks," IMF Working Papers, International Monetary Fund 12/58, International Monetary Fund.
  5. Wolfgang Karl Härdle & Ostap Okhrin & Yarema Okhrin, 2010. "Time varying Hierarchical Archimedean Copulae," SFB 649 Discussion Papers, Sonderforschungsbereich 649, Humboldt University, Berlin, Germany SFB649DP2010-018, Sonderforschungsbereich 649, Humboldt University, Berlin, Germany.
  6. Morten L. Bech & Enghin Atalay, 2008. "The topology of the federal funds market," Staff Reports, Federal Reserve Bank of New York 354, Federal Reserve Bank of New York.
  7. Daron Acemoglu & Asuman Ozdaglar & Alireza Tahbaz-Salehi, 2010. "Cascades in Networks and Aggregate Volatility," NBER Working Papers 16516, National Bureau of Economic Research, Inc.
  8. Koop, Gary & Pesaran, M. Hashem & Potter, Simon M., 1996. "Impulse response analysis in nonlinear multivariate models," Journal of Econometrics, Elsevier, Elsevier, vol. 74(1), pages 119-147, September.
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