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Between The Rock and a Hard Place: Regime Switching in the RelationshipBetween Short-Term Interest Rates and Equity Returns in the UK

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  • Olan T Henry

Abstract

We examine the relationship between short term interest rates and UK equity returns using a two regime Markov Switching EGARCH model. We find one high-return, low variance regime in which the conditional variance of equity returns responds persistently but symmetrically to equity return innovations. In the other, low-mean, highvariance, regime there is evidence that equity volatility responds asymmetrically and without persistence to shocks to equity returns. There is evidence of a regime dependent relationship between shorter maturity interest rate differentials and equity return volatility. Furthermore, there is evidence that events in the money markets influence the probability of transition across regimes

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Bibliographic Info

Paper provided by The University of Melbourne in its series Department of Economics - Working Papers Series with number 1019.

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Length: 33 pages
Date of creation: 2007
Date of revision:
Handle: RePEc:mlb:wpaper:1019

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Keywords: Regime switching; Time varying transition probabilities; Newsimpact surfaces; Asymmetric volatility; Interest Rate Spreads;

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