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Components of Economic Policy Uncertainty and Predictability of US Stock Returns and Volatility: Evidence from a Nonparametric Causality-in-Quantile Approach

Author

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  • Nikolaos Antonakakis

    (University of Portsmouth, Economics and Finance Group, Portsmouth, United Kingdom and Webster Vienna Private University, Department of Business and Management, Austria)

  • Mehmet Balcilar

    (Department of Economics, Eastern Mediterranean University, Turkey and Department of Economics, University of Pretoria, South Africa)

  • Rangan Gupta

    (Department of Economics, University of Pretoria)

  • Clement Kyei

    (Department of Economics, University of Pretoria)

Abstract

Predicting stock returns has significant implications for asset allocation, investment performance, and testing market efficiency. To this end, we examine whether U.S. stock returns and volatility can be predicted from a comprehensive set of financial and economic uncertainty indicators as well as migration-related uncertainty measures. We employ the nonparametric causality-in-quantile approach which is robust to misspecification errors since it captures nonlinearities in returns distribution. Our decision to use this approach is motivated by the presence of nonlinearity in our examined series, suggesting that the Granger causality test based on a linear framework is likely to suffer from misspecification. Our findings reveal that aggregate economic policy uncertainty (EPU) together with its different sub-components possess predictive information for U.S. stock returns and volatility barring few cases. In general, the prediction is strongest for returns volatility than for returns. Moreover, we document the ability of the recently developed migration-related EPU and migration fear measures in predicting financial market volatility. Our study therefore, provides evidence that level of aggregate and sub-components of policy uncertainty tends to cause stock market returns, and primarily, volatility.

Suggested Citation

  • Nikolaos Antonakakis & Mehmet Balcilar & Rangan Gupta & Clement Kyei, 2016. "Components of Economic Policy Uncertainty and Predictability of US Stock Returns and Volatility: Evidence from a Nonparametric Causality-in-Quantile Approach," Working Papers 201639, University of Pretoria, Department of Economics.
  • Handle: RePEc:pre:wpaper:201639
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    References listed on IDEAS

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    3. Ruipeng Liu & Riza Demirer & Rangan Gupta & Mark E. Wohar, 2017. "Do Bivariate Multifractal Models Improve Volatility Forecasting in Financial Time Series? An Application to Foreign Exchange and Stock Markets," Working Papers 201728, University of Pretoria, Department of Economics.
    4. Christou, Christina & Cunado, Juncal & Gupta, Rangan & Hassapis, Christis, 2017. "Economic policy uncertainty and stock market returns in PacificRim countries: Evidence based on a Bayesian panel VAR model," Journal of Multinational Financial Management, Elsevier, vol. 40(C), pages 92-102.
    5. Chuliá, Helena & Gupta, Rangan & Uribe, Jorge M. & Wohar, Mark E., 2017. "Impact of US uncertainties on emerging and mature markets: Evidence from a quantile-vector autoregressive approach," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 48(C), pages 178-191.
    6. Chow Sheung-Chi & Cunado Juncal & Gupta Rangan & Wong Wing-Keung, 2018. "Causal relationships between economic policy uncertainty and housing market returns in China and India: evidence from linear and nonlinear panel and time series models," Studies in Nonlinear Dynamics & Econometrics, De Gruyter, vol. 22(2), pages 1-15, April.
    7. Abir Abid & Christophe Rault, 2020. "On the Exchange Rate and Economic Policy Uncertainty Nexus: A Panel VAR Approach for Emerging Markets," CESifo Working Paper Series 8189, CESifo.
    8. Gupta, Rangan & Lau, Chi-Keung (Marco) & Sheng, Xin, 2020. "Graph theory-based network analysis of regional uncertainties of the US Economy," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 540(C).
    9. Abir Abid & Christophe Rault, 2020. "On the Exchange Rate and Economic Policy Uncertainty Nexus: A Panel VAR Approach for Emerging Markets," CESifo Working Paper Series 8189, CESifo.
    10. Rangan Gupta & Hylton Hollander & Mark E. Wohar, 2016. "The Impact of Oil Shocks in a Small Open Economy New-Keynesian Dynamic Stochastic General Equilibrium Model for South Africa," Working Papers 201652, University of Pretoria, Department of Economics.
    11. Rangan Gupta & Vasilios Plakandaras, 2019. "Efficiency in BRICS Currency Markets Using Long-Spans of Data: Evidence from Model-Free Tests of Directional Predictability," Journal of Economics and Behavioral Studies, AMH International, vol. 11(1), pages 152-165.

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    More about this item

    Keywords

    Economic Policy Uncertainty; Migration; Stock Prices; Nonparametric Quantile Causality; Volatility;
    All these keywords.

    JEL classification:

    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • G1 - Financial Economics - - General Financial Markets

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