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How is the European debt crisis affecting islamic equity? challenges in portfolio diversification within the eurozone: A markov switching and continuous wavelet transform analysis

Shakir, Zeeniya and Masih, Mansur (2016): How is the European debt crisis affecting islamic equity? challenges in portfolio diversification within the eurozone: A markov switching and continuous wavelet transform analysis.

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Abstract

The European Debt crisis hit hard on the Eurozone, where the market convergence, rigid exchange rates and the single currency based instruments create tight challenges for investors in terms of looking for safer investments and portfolio diversification. Islamic Equity markets in Eurozone provide safety compared to debt based highly volatile derivatives that caused the global financial collapse. Since it is critical to study areas with implications for the portfolio diversification issue for the investors and policy makers from the perspective of Islamic Equity markets, this paper makes the humble effort of filling in the gap in literature. The paper analyses how the Islamic Equity Markets in the Eurozone change in periods of crisis analyzing their regime shift probabilities and durations using Markov- Switching techniques. Overall, the time-variations in market indices suggest that the Islamic Equity markets in Eurozone are not immune to external shocks and they tend to fluctuate with the economic and financial shocks. The study also shows how Islamic Market investors, from Germany’s perspective could find any optimal diversification opportunities inside the Eurozone and shows if there is a need for investing outside the Eurozone to maximize diversification benefits by empirically testing the time-varying and scale dependent volatilities and correlations using the method of Continuous Wavelet Transform. The period covered is from 12 June 2008 till 21 April 2016, with spans of weekly data of S&P Europe 350 Shariah – (S&P Dow Jones Indices) stock index prices changed into returns using logarithmic equations. The results of the study shed light into the area pf portfolio diversification between the studied countries within the Eurozone, showing very little diversification opportunities between the member countries. Overall there is little room for diversification in the highly correlated markets across heterogeneous investment horizons.

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