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Long-term asset tail risks in developed and emerging markets

  • Straetmans, Stefan
  • Candelon, Bertrand

A power law typically governs the tail decay of financial returns but the constancy of the so-called tail index which dictates the tail decay remains relatively unexplored. We study the finite sample properties of some recently proposed endogenous tests for structural change in the tail index. Given that the finite sample critical values strongly depend on the tail parameters of the return distribution we propose a bootstrap-based version of the structural change test. Our empirical application spans developed and emerging financial asset returns. Somewhat surprisingly, emerging stock market tails are not more inclined to structural change than their developed counterparts. Emerging currency tails, on the contrary, do exhibit structural shifts in contrast to developed currencies. Our results suggest that extreme value theory (EVT) applications in hedging tail risks can assume stationary tail behavior over long time spans provided one considers portfolios that solely consist of stocks or bonds.

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Article provided by Elsevier in its journal Journal of Banking & Finance.

Volume (Year): 37 (2013)
Issue (Month): 6 ()
Pages: 1832-1844

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Handle: RePEc:eee:jbfina:v:37:y:2013:i:6:p:1832-1844
Contact details of provider: Web page: http://www.elsevier.com/locate/jbf

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  1. Candelon, Bertrand & Lütkepohl, Helmut, 2000. "On the reliability of chow type test for parameter constancy in multivariate dynamic models," SFB 373 Discussion Papers 2000,95, Humboldt University of Berlin, Interdisciplinary Research Project 373: Quantification and Simulation of Economic Processes.
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  3. Andrews, Donald W K, 1993. "Tests for Parameter Instability and Structural Change with Unknown Change Point," Econometrica, Econometric Society, vol. 61(4), pages 821-56, July.
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  9. Candelon, Bertrand & Straetmans, Stefan, 2006. "Testing for multiple regimes in the tail behavior of emerging currency returns," Journal of International Money and Finance, Elsevier, vol. 25(7), pages 1187-1205, November.
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  14. S. T. M. Straetmans & W. F. C. Verschoor & C. C. P. Wolff, 2008. "Extreme US stock market fluctuations in the wake of 9|11," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 23(1), pages 17-42.
  15. Jansen, Dennis W & de Vries, Casper G, 1991. "On the Frequency of Large Stock Returns: Putting Booms and Busts into Perspective," The Review of Economics and Statistics, MIT Press, vol. 73(1), pages 18-24, February.
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