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Time-varying correlations in oil, gas and CO2 prices: an application using BEKK, CCC, and DCC-MGARCH models

  • Chevallier, Julien

Previous literature has identified oil and gas prices as being the main drivers of CO2 prices in a univariate Generalized Autoregressive Conditional Heteroscedasticity (GARCH) econometric framework (Alberola et al., 2008; Oberndorfer, 2009). By contrast, we argue in this article that the interrelationships between energy and emissions markets shall be modelled in a Vector Autoregressive (VAR) and Multivariate GARCH (MGARCH) framework, so as to reflect the dynamics of the correlations between the oil, gas and CO2 variables overtime. Using the Baba–Engle–Kraft–Kroner (BEKK), Constant Conditional Correlation (CCC) and Dynamic Conditional Correlation MGARCH (DCC-MGARCH) models on daily data from April 2005 to December 2008, we highlight significant own-volatility, cross-volatility spillovers, and own persistent volatility effects for nearly all markets, indicating the presence of strong Autoregressive Conditional Heteroscedasticity (ARCH) and GARCH effects. Besides, we provide strong empirical evidence of time-varying correlations in the range of [−0.3; 0.3] between oil and gas, [−0.05; 0.05] between oil and CO2, and [−0.2; 0.2] between gas and CO2, that have not been considered by previous studies. These findings are of interest for traders and utilities in the energy sector, but also for a broader applied economics audience.

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Paper provided by Paris Dauphine University in its series Economics Papers from University Paris Dauphine with number 123456789/6790.

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Date of creation: Nov 2012
Date of revision:
Publication status: Published in Applied Economics, 2012, Vol. 44, no. 32. pp. 4257-4274.Length: 17 pages
Handle: RePEc:dau:papers:123456789/6790
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  1. Gourinchas, Pierre-Oliver & Farhi, Emmanuel & Caballero, Ricardo J., 2008. "Financial Crash, Commodity Prices, and Global Imbalances," Scholarly Articles 3229095, Harvard University Department of Economics.
  2. Oberndorfer, Ulrich, 2009. "EU Emission Allowances and the stock market: Evidence from the electricity industry," Ecological Economics, Elsevier, vol. 68(4), pages 1116-1126, February.
  3. Yuan-Hung Hsu Ku, 2008. "Student-t distribution based VAR-MGARCH: an application of the DCC model on international portfolio risk management," Applied Economics, Taylor & Francis Journals, vol. 40(13), pages 1685-1697.
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  7. Alberola, Emilie & Chevallier, Julien & Cheze, Benoi^t, 2008. "Price drivers and structural breaks in European carbon prices 2005-2007," Energy Policy, Elsevier, vol. 36(2), pages 787-797, February.
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  10. Engle, Robert F. & Kroner, Kenneth F., 1995. "Multivariate Simultaneous Generalized ARCH," Econometric Theory, Cambridge University Press, vol. 11(01), pages 122-150, February.
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  12. Alberola, Emilie & Chevallier, Julien & Chèze, Benoît, 2008. "Price drivers and structural breaks in European carbon prices 2005-07," Economics Papers from University Paris Dauphine 123456789/4222, Paris Dauphine University.
  13. Engle, Robert, 2002. "Dynamic Conditional Correlation: A Simple Class of Multivariate Generalized Autoregressive Conditional Heteroskedasticity Models," Journal of Business & Economic Statistics, American Statistical Association, vol. 20(3), pages 339-50, July.
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