Transmission of risks between energy and agricultural commodities: Frequency time-varying VAR, asymmetry and portfolio management

Furuoka, Fumitaka and Yaya, OlaOluwa S and Ling, Piu Kiew and Al-Faryan, Mamdouh Abdulaziz Saleh and Islam, M. Nazmul (2023): Transmission of risks between energy and agricultural commodities: Frequency time-varying VAR, asymmetry and portfolio management. Published in: Resources Policy

Abstract

This paper examines energy and agricultural commodities' short-run and long-run connectedness by using the Time-varying parameter vector autoregressions (TVP-VAR). It applies the frequency version of the TVP-VAR model, which is a modified version of the dynamic TVP-VAR model. The frequency decomposition definition also decomposes into short-run and long-run connectedness. We further the analysis by investigating the effect of asymmetry in returns on connectedness. It also examines how portfolio management strategies would lead to a maximization of profits with minimal risks. Empirical evidence indicates that only 32.52% and 31.38% of connectedness in oil and gas, respectively, are transmitted to agricultural commodities, which suggests their weak tendencies in influencing agricultural commodities; the total connectedness index hovers around 40-60% in the 2018-2019 period; however, it dropped below 40% in 2020-2021 when the COVID-19 pandemic contributed to disintegrate the connectedness between energy and agricultural commodities but increased further during the 2022 Russia-Ukraine saga. The findings also indicate that corn, wheat, and flour are net transmitters of risks to oil and natural gas in the long and short-run, and wheat-flour pairwise connectedness is the strongest in the connectedness. Asymmetry is also pronounced in the network of connectedness. Portfolio analyses indicate that investors require a low proportion of energy in a portfolio of energy-agricultural commodities to achieve an optimum profit. The findings will offer exciting insights into the connectedness of agricultural and energy commodities, particularly during periods of high price uncertainty.

• Item Type: MPRA Paper
• Language: English
• Keywords: Agricultural commodity; Asymmetry; Frequency TVP-VAR; Optimal weight; Risk
• Subjects: C - Mathematical and Quantitative Methods > C2 - Single Equation Models ; Single Variables > C22 - Time-Series Models ; Dynamic Quantile Regressions ; Dynamic Treatment Effect Models ; Diffusion Processes

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