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Multifrequency-based non-linear approach to analyzing implied volatility transmission across global financial markets

Author

Listed:
  • Ebenezer Boateng

    (University of Cape Coast, Ghana)

  • Emmanuel Asafo-Adjei

    (University of Cape Coast, Ghana)

  • John Gartchie Gatsi

    (University of Cape Coast, Ghana)

  • ªtefan Cristian Gherghina

    (Bucharest University of Economic Studies, Romania)

  • Liliana Nicoleta Simionescu

    (Bucharest University of Economic Studies, Romania)

Abstract

Research background: The contagious impact of the COVID-19 pandemic has heightened financial market's volatility, nonlinearity, asymmetric and nonstationary dynamics. Hence, the existing relationship among financial assets may have been altered. Moreover, the level of investor risk aversion and market opportunities could also alter in the pandemic. Predictably, investors in the heat of the moment are concerned about minimizing losses. In order to determine the level of hedge risks between implied volatilities in the COVID-19 pandemic through information flow, it is required to take into account the increased vagueness of economic projections as well as the increased uncertainty in asset values as a result of the pandemic. Purpose of the article: The study aims to examine the transmission of information between the VIX-implied volatility index for S&P 500 and fifteen other implied volatility indices in the COVID-19 pandemic. Methods: We relied on daily changes in the VIX and fifteen other implied volatility indices from commodities, currencies, and stocks. The study employed the improved complete ensemble empirical mode decomposition with adaptive noise which is in line with the heterogeneous expectations of market participants to denoise the data and extract intrinsic mode functions (IMFs). Subsequently, we clustered the IMFs based on common features into high, low, and medium frequencies. The analysis was carried out using Rényi transfer entropy (RTE), which allowed for the evaluation of both linear and non-linear, as well as varied distributions of the market dynamics. Findings & value added: Findings from the RTE revealed a bi-directional flow of negative information amid the VIX and each of the volatility indices, particularly in the long term. We found this behavior of the markets to be consistent at varying levels of investors' risk aversion. The findings help investors with their portfolio strategies in the time of the pandemic, which has resulted in fluctuating levels of risk aversion. Our findings characterize global financial markets to be “non-linear heterogeneous evolutionary systems”. The results also lend support to the emerging delayed volatility of market competitiveness and external shocks hypothesis.

Suggested Citation

  • Ebenezer Boateng & Emmanuel Asafo-Adjei & John Gartchie Gatsi & ªtefan Cristian Gherghina & Liliana Nicoleta Simionescu, 2022. "Multifrequency-based non-linear approach to analyzing implied volatility transmission across global financial markets," Oeconomia Copernicana, Institute of Economic Research, vol. 13(3), pages 699-743, September.
    • Handle: RePEc:pes:ieroec:v:13:y:2022:i:3:p:699-743
    DOI: 10.24136/oc.2022.021
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    References listed on IDEAS

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    More about this item

    Keywords

    shocks transmission; information flow; Rényi transfer entropy; multi-scale; market conditions;
    All these keywords.

    JEL classification:

    • C6 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling
    • C58 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Financial Econometrics
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G01 - Financial Economics - - General - - - Financial Crises
    • Q40 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Energy - - - General

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