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On the Network Topology of Variance Decompositions: Measuring the Connectedness of Financial Firms

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  • Francis X. Diebold

    ()
    (University of Pennsylvania and NBER)

  • Kamil Yilmaz

    (Koc University)

Abstract

We propose several connectedness measures built from pieces of variance decompositions, and we argue that they provide natural and insightful measures of connectedness among financial asset returns and volatilities. We also show that variance decompositions define weighted, directed networks, so that our connectedness measures are intimately-related to key measures of connectedness used in the network literature. Building on these insights, we 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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File URL: http://eaf.ku.edu.tr/sites/eaf.ku.edu.tr/files/erf_wp_1124.pdf
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Bibliographic Info

Paper provided by Koc University-TUSIAD Economic Research Forum in its series Koç University-TUSIAD Economic Research Forum Working Papers with number 1124.

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Length: 38 pages
Date of creation: Oct 2011
Date of revision:
Handle: RePEc:koc:wpaper:1124

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Keywords: Risk measurement; risk management; portfolio allocation; market risk; credit risk; systemic risk; asset markets; degree distribution;

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References

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  1. Francis X. Diebold & Kamil Yilmaz, 2008. "Measuring financial asset return and volatility spillovers, with application to global equity markets," Working Papers 08-16, Federal Reserve Bank of Philadelphia.
  2. Morten L. Bech & Enghin Atalay, 2008. "The topology of the federal funds market," Staff Reports 354, Federal Reserve Bank of New York.
  3. Franklin Allen & Ana Babus & Elena Carletti, 2010. "Financial Connections and Systemic Risk," Economics Working Papers ECO2010/26, European University Institute.
  4. Jean-Marie Dufour & Abderrahim Taamouti, 2008. "Short and long run causality measures: theory and inference," Economics Working Papers we083720, Universidad Carlos III, Departamento de Economía.
  5. Marcella Lucchetta & Gianni De Nicoló, 2012. "Systemic Real and Financial Risks: Measurement, Forecasting, and Stress Testing," IMF Working Papers 12/58, International Monetary Fund.
  6. Daron Acemoglu & Asuman Ozdaglar & Alireza Tahbaz-Salehi, 2010. "Cascades in Networks and Aggregate Volatility," NBER Working Papers 16516, National Bureau of Economic Research, Inc.
  7. Wolfgang Karl Härdle & Ostap Okhrin & Yarema Okhrin, 2010. "Time varying Hierarchical Archimedean Copulae," SFB 649 Discussion Papers SFB649DP2010-018, Sonderforschungsbereich 649, Humboldt University, Berlin, Germany.
  8. Koop, Gary & Pesaran, M. Hashem & Potter, Simon M., 1996. "Impulse response analysis in nonlinear multivariate models," Journal of Econometrics, Elsevier, vol. 74(1), pages 119-147, September.
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Cited by:
  1. Mardi Dungey & Matteo Luciani & David Veredas, 2012. "Ranking Systemically Important Financial Institutions," CAMA Working Papers 2012-47, Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University.
  2. Alter, Adrian & Beyer, Andreas, 2013. "The dynamics of spillover effects during the European sovereign debt crisis," Working Paper Series 1558, European Central Bank.
  3. Torben G. Andersen & Tim Bollerslev & Peter F. Christoffersen & Francis X. Diebold, 2011. "Financial Risk Measurement for Financial Risk Management," PIER Working Paper Archive 11-037, Penn Institute for Economic Research, Department of Economics, University of Pennsylvania.
  4. Alter, Adrian & Beyer, Andreas, 2014. "The dynamics of spillover effects during the European sovereign debt turmoil," Journal of Banking & Finance, Elsevier, vol. 42(C), pages 134-153.
  5. Robin Greenwood & Augustin Landier & David Thesmar, 2012. "Vulnerable Banks," NBER Working Papers 18537, National Bureau of Economic Research, Inc.
  6. Davide fiaschi & Angela Parenti, 2013. "An Estimate of the Degree of Interconnectedness between European Regions: A Bayesian Model Averaging Approach," Discussion Papers 2013/171, Dipartimento di Economia e Management (DEM), University of Pisa, Pisa, Italy.
  7. Germán López-Espinosa & Antonio Rubia & Laura Valderrama & Antonio Moreno, 2012. "Systemic Risk and Asymmetric Responses in the Financial Industry," IMF Working Papers 12/152, International Monetary Fund.

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