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Decoding Chinese stock market returns: Three-state hidden semi-Markov model

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  • Liu, Zhenya
  • Wang, Shixuan

Abstract

In this paper, we employ a three-state hidden semi-Markov model (HSMM) to explain the time-varying distribution of the Chinese stock market returns since 2005. Our results indicate that the time-varying distribution depends on the hidden states, which are represented by three market conditions, namely the bear, sidewalk, and bull markets. We find that the inflation, the PMI, and the exchange rate are significantly related to the market conditions in China. A simple trading strategy based on expanding window decoding shows profitability with a Sharpe ratio of 1.14.

Suggested Citation

  • Liu, Zhenya & Wang, Shixuan, 2017. "Decoding Chinese stock market returns: Three-state hidden semi-Markov model," Pacific-Basin Finance Journal, Elsevier, vol. 44(C), pages 127-149.
  • Handle: RePEc:eee:pacfin:v:44:y:2017:i:c:p:127-149
    DOI: 10.1016/j.pacfin.2017.06.007
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    Cited by:

    1. Apergis, Nicholas & Gozgor, Giray & Lau, Chi Keung Marco & Wang, Shixuan, 2019. "Decoding the Australian electricity market: New evidence from three-regime hidden semi-Markov model," Energy Economics, Elsevier, vol. 78(C), pages 129-142.
    2. Elie Bouri & Rangan Gupta & Shixuan Wang, 2019. "Contagion between Stock and Real Estate Markets: International Evidence from a Local Gaussian Correlation Approach," Working Papers 201917, University of Pretoria, Department of Economics.

    More about this item

    Keywords

    Chinese stock market; Asset return; Hidden semi-Markov model;

    JEL classification:

    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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