Petroleum volatility spillover index and stock return predictability

We construct a volatility spillover index across six petroleum commodities and use this index to predict stock returns. Empirically, we use the price data of crude oil, gasoline, heating oil, diesel fuel, jet fuel, and propane to construct the monthly petroleum volatility spillover index from 1996 to 2021, which significantly and positively predicts monthly S&P 500 index returns over both short- and long-term horizons, in-sample and out-of-sample, providing sizeable economic value for investor asset allocation. The spillover index's predictive power primarily stems from the crude oil market, investor sentiment and cash flows channel. Furthermore, the significant predictive power of the petroleum spillover index remains robust across cross-sections and various volatility measurement methods.