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Modeling Volatility and Risk Spillover Between the Financial Markets of US and China Using GARCH Value-at-Risk Forecasting and Granger Causality

Undergraduate Thesis published by the Seoul National University Department of Economics (2020). (Read here)

Keywords: VaR(Value at Risk), ARIMA-GARCH model, Risk management

Motivation

Comparative analysis of international economies during two periods of elevated volatility: the Great Recession of 2008 and the Coronavirus Recession.

Dataset

Intraday returns (January 2007 - April 2020)

  • S&P500
  • SSE Composite Index
  • Chinese Yuan to USD exchange rate

Source: Yahoo Finance

Methodology

  • Volatility Forecasting:
    • Skewed Student’s t ARIMA-GARCH model
      • Augmented Dickey-Fuller Test for Stationarity
      • Jarque-Bera Test of Normality
      • Box-Ljung Test of Autocorrelation
      • Breusch-Pagan Test for Heteroskedasticity
    • Parametric Value-at-Risk (VaR)
  • Risk Spillover: Granger Causality

Conclusion

While a considerable degree of risk spillover is observed between the US and Chinese economies throughout the date range, its predictive power is shown to markedly diminish during the two Recession periods.

References

  • Box, G; Jenkins, G. (1970), “Time Series Analysis: Forecasting and Control”, San Francisco: Holden-Day.
  • Bollerslev, T. (1986), “Generalized Autoregressive Conditional Heteroskedasticity”, Journal of Econometrics, April, 31:3, pp. 307–27.
  • Granger, C. W. J. (1969), “Investigating Causal Relations by Econometric Models and Cross- Spectral Methods,” Econometrica 37, 424-438.
  • Granger, C.W.J. (1980), “Testing for Causality: A Personal View,” Journal of Economic Dynamics and Control 2, 329-352.
  • Hamilton, J.D. (1994), “Time Series Analysis”, Taylor & Francis US.
  • Hansen, B. (1994), “Autoregressive Conditional Density Estimation,” International Economic Review 35, 705-730.
  • Lee, S. and B. Hansen (1994), “Asymptotic Theory for the GARCH(1,1) Quasi-maximum Likelihood Estimator,” Econometric Theory.
  • Morgan, J.P. (1996), “Risk Metrics–Technical Document”, 4rd Edition, Morgan Guaranty Trust Company: New York.