Commodity and Equity Markets: Some Stylized Facts from a Copula Approach.

Delatte, Anne-Laure and Lopez, Claude (2012): Commodity and Equity Markets: Some Stylized Facts from a Copula Approach.

Abstract

In this paper, we propose to identify the dependence structure existing between the returns of equity and commodity futures and its evolution through the past 20 years. The key point is that we do not do not impose the dependence structure but let the data select it. To do so, we model the dependence between commodity (metal, agriculture and energy) and stock markets using a flexible approach that allows us to investigate whether the co-movement is : (i) symmetric and occurring most of the time, (ii) symmetric and occurring mostly during extreme events and (iii) asymmetric and occurring mostly during extreme events. We also allow for this dependence to be time-varying from January 1990 to February 2012. Our analysis uncovers three major stylized facts. First, we find that the dependence between commodity and stock markets is time varying, symmetric and occurs most of the time (as opposed to mostly in extreme events). Second, not allowing for time-varying parameters in the dependence distribution generates a bias toward evidence of tail dependence. Similarly, considering only tail dependence may lead to wrong evidence of asymmetry. Third, a growing comovement between industrial metals and equity markets is identified as early as in 2003, a comovement that spreads to all commodity classes and becomes unambiguously stronger with the global financial crisis after Fall 2008.

• Item Type: MPRA Paper
• Language: English
• Keywords: copula, commodity market, time varying, tail-dependence, comovement, equity market
• Subjects: F - International Economics > F3 - International Finance > F30 - General; C - Mathematical and Quantitative Methods > C2 - Single Equation Models ; Single Variables > C20 - General; Q - Agricultural and Natural Resource Economics ; Environmental and Ecological Economics > Q0 - General; G - Financial Economics > G1 - General Financial Markets > G10 - General

References

Ane T., Kharoubi C., (2003), "Dependence Structure and Risk Measure", Journal of Business, July, vol. 76, issue 3, pp 411-438,

Bichetti, D. and N. Maystre, (2012), "The synchronized and long-lasting structural change on commodity markets: evidence from high frequency data", Munich Personal RePEc Archive Paper No. 37486

Buyuksahin, B., Haigh, M.and M. Robe, (2010), "Commodities and equities: A market of one? Journal of Alternative Investments", Vol. 12, No. 3, Winter 2010

Chollete, L., de la Peña, V. and C.C.Ching-Chih, (2011), "International diversification: A copula approach," Journal of Banking & Finance, Elsevier, vol. 35(2), pages 403-417.

Chong, J and J.Miffre, (2010), "Conditional correlation and volatility in commodity futures and traditional asset markets". Journal of Alternative Investments 12, 61-75

Daskalaki, C. and G. Skiadopoulos, (2011), "Should investors include commodities in their portfolios after all? New evidence", Journal of Banking and Finance, Volume 35, Issue 10, October 2011, Pages 2606--2626

Desmoulins-Lebeault, F. and C. Kharoubi, (2012), "Non-Gaussian diversification : When size matters", Journal of Banking and Finance, 36: 1987- 1996.

Engle, R., (2002), "Dynamic Conditional Correlation: A Simple Class of Multivariate Generalized Autoregressive Conditional Heteroskedasticity Models," Journal of Business & Economic Statistics, American Statistical Association, vol. 20(3), pages 339-50.

Embrechts, P., McNeil, A., Straumann, D., (2002), "Correlation and dependence in risk management: properties and pitfalls In: Risk Management: Value at Risk and Beyond", ed. M.A.H. Dempster, Cambridge University Press, Cambridge, pp. 176-223

Erb C., Harvey, C., and T. Viskanta, (1994), "Forecasting international equity correlations." Financial Analysts Journal November--December:32-45.

Erb, C. and C. Harvey, 2006, "The strategic and tactical value of commodity futures." Financial Analysts Journal 62(2):69-97.

Frankel, J. and A.K.Rose, (2010), "Determinants of Agricultural and Mineral Commodity Prices," Working Paper Series rwp10-038, Harvard University, John F. Kennedy School of Government.

Gorton, G and K.G. Rouwenhorst, 2006, "Facts and fantasies about commodity futures." Financial Analysts Journal 62(2):47-68.

Hong, H. and M. Yogo (2009), "Digging into Commodities,"Working Paper, Princeton University.

Hu, L., (2006), "Dependence patterns across financial markets : a mixed copula approach".Applied Financial Economics16, 717-729.

Kat, H. M. and R. C. A. Oomen, (2007), "What every investor should know about commodities. Part II: multivariate return analysis." Journal of Investment Management 5,16--40.

Kole, E., Koedijk, K., Verbeek, M., (2007), "Selecting copulas for risk management." Journal of Banking and Finance 31, 2405--2423.

Kolb, R.W. (1992), "Is Normal Backwardation Normal?," Journal of Futures Markets 12, p. 75--91.

Longin, F. and Solnik, B. (2001) "Extreme Correlation of International Equity Markets", The Journal of Finance, Vol. 56, No.2.

Malevergne, Y. and D. Sornette, (2003), "Testing the Gaussian copula hypothesis for financial assets dependences," Quantitative Finance, Taylor and Francis Journals, vol. 3(4), pages 231-250.

Ning, C. (2010), "Dependence Structure between the Equity market and the Foreign exchange market- A coppula approach", Journal of International Money and Finance 29, 743-759

Patton, . A. J. (2006), "Modelling Asymmetric Exchange Rate Dependence". International Economic Review, 47: 527--556 Sklar, A., (1959), "Fonctions de répartition `a n dimensions et leurs marges", Publications de l'Institut Statistique de l'Université de Paris 8, 229--31.

Silvennoinen, A. and S. Thorp , (2010), "Financialization, Crisis and Commodity Correlation Dynamics", Research Paper Series 267, Quantitative Finance Research Centre, University of Technology, Sydney.

Smith, Andy, (2006), "The Gorton and Rouwenhorst Commodity Code", mimeo

Tang, K and W. Xiong, (2010), "Index Investing and the Financialization of Commodities". NBER Working Paper No. 16325, September 2010. Revised, March 2011.