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Econometric measures of connectedness and systemic risk in the finance and insurance sectors

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  • Billio, Monica
  • Getmansky, Mila
  • Lo, Andrew W.
  • Pelizzon, Loriana

Abstract

We propose several econometric measures of connectedness based on principal-components analysis and Granger-causality networks, and apply them to the monthly returns of hedge funds, banks, broker/dealers, and insurance companies. We find that all four sectors have become highly interrelated over the past decade, likely increasing the level of systemic risk in the finance and insurance industries through a complex and time-varying network of relationships. These measures can also identify and quantify financial crisis periods, and seem to contain predictive power in out-of-sample tests. Our results show an asymmetry in the degree of connectedness among the four sectors, with banks playing a much more important role in transmitting shocks than other financial institutions.

Suggested Citation

  • Billio, Monica & Getmansky, Mila & Lo, Andrew W. & Pelizzon, Loriana, 2012. "Econometric measures of connectedness and systemic risk in the finance and insurance sectors," Journal of Financial Economics, Elsevier, vol. 104(3), pages 535-559.
  • Handle: RePEc:eee:jfinec:v:104:y:2012:i:3:p:535-559
    DOI: 10.1016/j.jfineco.2011.12.010
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    References listed on IDEAS

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    More about this item

    Keywords

    Systemic risk; Financial institutions; Liquidity; Financial crises;

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G29 - Financial Economics - - Financial Institutions and Services - - - Other
    • C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation

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