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A Copula-Based Autoregressive Conditional Dependence Model of International Stock Markets

Author

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  • Rob van den Goorbergh

Abstract

This paper investigates the level and development of cross-country stock market dependence using daily returns on stock indices. The use of copulas allows us to build exible models of the joint distribution of stock index returns. In particular, we apply univariate AR(p)-GARCH(1,1) models to the margins with possibly skewed and fat tailed return innovations, while modelling the dependence between markets using parametric families of copulas which offer various alternatives to the commonly assumed normal dependence structure. Moreover, the dependence across stock markets is allowed to vary over time through a GARCH-like autoregressive conditional copula model. Using synchronous daily returns on U.S., U.K., and French stock indices, we find strong evidence that the conditional dependence between pairs of each of these markets varies over time. All market pairs show high levels of dependence persistence. The performance of the copula-based approach is compared with Engle's (2002) dynamic conditional correlation model and found to be superior.

Suggested Citation

  • Rob van den Goorbergh, 2004. "A Copula-Based Autoregressive Conditional Dependence Model of International Stock Markets," DNB Working Papers 022, Netherlands Central Bank, Research Department.
  • Handle: RePEc:dnb:dnbwpp:022
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    File URL: https://www.dnb.nl/binaries/Working%20Paper%2022_tcm46-146679.pdf
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    References listed on IDEAS

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    1. Bollerslev, Tim & Engle, Robert F & Wooldridge, Jeffrey M, 1988. "A Capital Asset Pricing Model with Time-Varying Covariances," Journal of Political Economy, University of Chicago Press, vol. 96(1), pages 116-131, February.
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    Cited by:

    1. Jacek Leskow & Justyna Mokrzycka & Krzysztof Krawiec, 2011. "Modeling Stock Market Indexes With Copula Functions," "e-Finanse", University of Information Technology and Management, Institute of Financial Research and Analysis, vol. 7(2), pages 1-16, August.
    2. Grundke, Peter & Polle, Simone, 2012. "Crisis and risk dependencies," European Journal of Operational Research, Elsevier, vol. 223(2), pages 518-528.
    3. Atskanov, Isuf, 2015. "Dynamic optimization of an investment portfolio on European stock markets using pair copulas," Applied Econometrics, Publishing House "SINERGIA PRESS", vol. 40(4), pages 84-105.

    More about this item

    Keywords

    stock markets; dependence; copulas; synchronicity;

    JEL classification:

    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation
    • C12 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Hypothesis Testing: General
    • C13 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Estimation: General
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models

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