Flight-to-quality or Contagion? An EmpiricalAnalysis of Stock-bond correlations
AbstractThis paper analyzes the existence of flight-to-quality from stocks to bonds and contagion between the two asset classes. Flight-to-quality is present if correlations between stocks and bonds strongly decrease in falling stock markets since this constitutes a movement of the asset classes in opposite directions. A movement in the same direction characterized by strongly increasing correlations in falling stock markets implies contagion across asset classes. We estimate dynamic conditional correlations and analyze normal and extreme changes of these correlations through time without an a priori specification of any crisis period. Daily MSCI stock and government bond returns are analyzed for a selection of European countries and the US. Our findings show that the correlation between the asset classes is characterized by large fluctuations and negative on average for the whole sample period. Extreme negative and positive correlation changes explained with flight-to-quality and contagion are relatively frequent phenomena. Examples of flight-to-quality are in the Asian and Russian crisis 1997 and 1998 and contagion is found after September 11. Controlling for the regime of correlations further shows that stock market volatility contributes to flight-to-quality and bond volatility to contagion.
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Bibliographic InfoPaper provided by IIIS in its series The Institute for International Integration Studies Discussion Paper Series with number iiisdp122.
Date of creation: 05 Apr 2006
Date of revision:
flight-to-quality; contagion; multivariate GARCH;
Find related papers by JEL classification:
- F36 - International Economics - - International Finance - - - Financial Aspects of Economic Integration
- F37 - International Economics - - International Finance - - - International Finance Forecasting and Simulation: Models and Applications
- G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
- G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
- G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
This paper has been announced in the following NEP Reports:
- NEP-ALL-2006-04-22 (All new papers)
- NEP-EEC-2006-04-22 (European Economics)
- NEP-ETS-2006-04-22 (Econometric Time Series)
- NEP-FIN-2006-04-22 (Finance)
- NEP-FMK-2006-04-22 (Financial Markets)
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