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Are benefits from oil - stocks diversification gone? New evidence from a dynamic copula and high frequency data

  • Krenar Avdulaj
  • Jozef Barunik

Oil is perceived as a good diversification tool for stock markets. To fully understand this potential, we propose a new empirical methodology that combines generalized autoregressive score copula functions with high frequency data and allows us to capture and forecast the conditional time-varying joint distribution of the oil -- stocks pair accurately. Our realized GARCH with time-varying copula yields statistically better forecasts of the dependence and quantiles of the distribution relative to competing models. Employing a recently proposed conditional diversification benefits measure that considers higher-order moments and nonlinear dependence from tail events, we document decreasing benefits from diversification over the past ten years. The diversification benefits implied by our empirical model are, moreover, strongly varied over time. These findings have important implications for asset allocation, as the benefits of including oil in stock portfolios may not be as large as perceived.

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File URL: http://arxiv.org/pdf/1307.5981
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Paper provided by arXiv.org in its series Papers with number 1307.5981.

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Date of creation: Jul 2013
Date of revision: Feb 2015
Handle: RePEc:arx:papers:1307.5981
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