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Equity Return and Short-Term Interest Rate Volatility : Level Effects and Asymmetric Dynamics

  • Olan T. Henry
  • Nilss Olekalns
  • Sandy Suardi

Evidence suggests that short-term interest rate volatility peaks with the level of short rates, while equity volatility responds asymmetrically to positive and negative shocks. We present an LM based test that distinguishes between level effects and asymmetry in volatility which is robust to the presence of unidentified nuisance parameters under the null. There is strong evidence of a level effect and asymmetric response in the relationship between S&P 500 Index returns and 3-month US Treasury Bills. The conditional covariance depends on the level of the short rate which has implications for hedging equity returns against short term interest rate movements.

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Paper provided by The University of Melbourne in its series Department of Economics - Working Papers Series with number 941.

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Length: 46 pages
Date of creation: 2005
Date of revision:
Handle: RePEc:mlb:wpaper:941
Contact details of provider: Postal: Department of Economics, The University of Melbourne, 4th Floor, FBE Building, Level 4, 111 Barry Street. Victoria, 3010, Australia
Phone: +61 3 8344 5355
Fax: +61 3 8344 6899
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