Co-Movement of Pakistan Stock Exchange with India, S&P 500 and Nikkei 225: A Time-frequency (Wavelets) Analysis

Shahzad, Syed Jawad Hussain and Zakaria, Muhammad and Rehman, Mobeen ur and Ahmed, Tanveer and Khalid, Saniya (2014): Co-Movement of Pakistan Stock Exchange with India, S&P 500 and Nikkei 225: A Time-frequency (Wavelets) Analysis.

Abstract

This study examines the co-movement between the Pakistan, Indian, S&P 500 and Nikkei 225 stock markets using weekly data from 1998 to 2013. The time-frequency relationship between the selected stock markets is conducted by using measures of continuous wavelet power spectrum, cross-wavelet transform and cross (squared) wavelet coherency. The empirical evidence suggests strong dependence between Pakistan and Indian stock markets. The co-movement of Pakistani index with U.S and Japanese, the developed markets, varies over time and frequency where the long-run relationship is dominant. The results of cross wavelet and wavelet coherence analysis indicate moderate covariance and correlation between stock indexes and the markets are in phase (i.e. cyclical in nature) over varying durations. Pakistan stock market was lagging during the entire period in relation to Indian stock market, corresponding to the 8~32 and then 64~256 weeks scale. Similar findings are evident for S&P 500 and Nikkei 225 indexes, however, the relationship occurs during the later period of study. All three wavelet indicators suggest strong evidence of higher co-movement during 2008-09 global financial crises. The empirical analysis reveals a strong evidence that the portfolio diversification benefits vary across frequencies and time. This analysis is unique and have several practical implications for regional and international investors while assigning the optimal weightage of different assets in portfolio formulation.

• Item Type: MPRA Paper
• Language: English
• Keywords: Co-movement; Pakistan stock exchange; S&P 500; Nikkei 225; Wavelet Analysis
• Subjects: G - Financial Economics > G1 - General Financial Markets; G - Financial Economics > G1 - General Financial Markets > G11 - Portfolio Choice ; Investment Decisions

References

Aggarwal, R., & Kyaw, N. A. (2005). Equity market integration in the NAFTA region: Evidence from unit root and cointegration tests. International Review of Financial Analysis, 14(4), 393-406.

Aguiar-Conraria, L., Azevedo, N., & Soares, M. J. (2008). Using wavelets to decompose the time–frequency effects of monetary policy. Physica A: Statistical mechanics and its Applications, 387(12), 2863-2878.

Ajayi, R. A., & Mehdian, S. M. (1995). Global reaction of security prices to major US-induced surprises: an empirical investigation. Applied Financial Economics, 5(4), 203-218.

Aloui, C., Hammoudeh, S., & Hamida, H. B. (2014). Co-movement between sharia stocks and sukuk in the GCC markets: A time-frequency analysis. Journal of International Financial Markets, Institutions and Money. 34, 69-79.

Bessler, D. A., & Yang, J. (2003). The structure of interdependence in international stock markets. Journal of international money and finance, 22(2), 261-287.

Boubaker, S., & Jouini, J. (2014). Linkages between emerging and developed equity markets: Empirical evidence in the PMG framework. The North American Journal of Economics and Finance, 29, 322-335.

Bowman, R. G., & Comer, M. R. (2000). The reaction of world equity markets to the Asian economic crisis. Working paper, University of Auckland.

Cerny, A. (2004). Stock market integration and the speed of information transmission. Charles University. Center for Economic Research and Graduate Education.

Cha, B., & Oh, S. (2000). The relationship between developed equity markets and the Pacific Basin's emerging equity markets. International Review of Economics & Finance, 9(4), 299-322.

Charles, A., & Darné, O. (2006). Large shocks and the September 11th terrorist attacks on international stock markets. Economic Modelling, 23(4), 683-698.

Chen, G. M., Firth, M., & Meng Rui, O. (2002). Stock market linkages: evidence from Latin America. Journal of Banking & Finance, 26(6), 1113-1141.

Ciner, C. (2006). A further look at linkages between NAFTA equity markets. The Quarterly Review of Economics and Finance, 46(3), 338-352.

Clements, M. P., & Hendry, D. F. (1995). Forecasting in cointegrated systems. Journal of Applied Econometrics, 10(2), 127-146.

Click, R. W., & Plummer, M. G. (2005). Stock market integration in ASEAN after the Asian financial crisis. Journal of Asian Economics, 16(1), 5-28.

Dekker, A., Sen, K., & Young, M. R. (2001). Equity market linkages in the Asia Pacific region: a comparison of the orthogonalised and generalised VAR approaches. Global Finance Journal, 12(1), 1-33.

Diamandis, P. F. (2008). Financial liberalization and changes in the dynamic behaviour of emerging market volatility: Evidence from four Latin American equity markets. Research in International business and Finance, 22(3), 362-377.

Dickey, D., Fuller, W.A., (1979). Distribution of the estimates for autoregressive time series with unit root. Journal of the American Statistical Association, 74(366), 427–431.

Égert, B., & Kočenda, E. (2007). Interdependence between Eastern and Western European stock markets: Evidence from intraday data. Economic Systems, 31(2), 184-203.

Engle, R. F., & Yoo, B. S. (1987). Forecasting and testing in co-integrated systems. Journal of econometrics, 35(1), 143-159.

Floros, C. (2005). Price linkages between the US, Japan and UK stock markets. Financial Markets and Portfolio Management, 19(2), 169-178.

Granger, C. W. (1969). Investigating causal relations by econometric models and cross-spectral methods. Econometrica: Journal of the Econometric Society, 424-438.

Hooi Lean, H., & Ghosh, B. N. (2010). Economic Integration in Asia: Quo Vadis Malaysia?. International Economic Journal, 24(2), 237-248.

Hudgins, L., Friehe, C. A., & Mayer, M. E. (1993). Wavelet transforms and atmopsheric turbulence. Physical Review Letters, 71(20), 3279.

Huyghebaert, N., & Wang, L. (2010). The co-movement of stock markets in East Asia: Did the 1997–1998 Asian financial crisis really strengthen stock market integration?. China Economic Review, 21(1), 98-112.

Kearney, C., & Lucey, B. M. (2004). International equity market integration: Theory, evidence and implications. International Review of Financial Analysis, 13(5), 571-583.

Kim, S., & In, F. (2007). On the relationship between changes in stock prices and bond yields in the G7 countries: Wavelet analysis. Journal of International Financial Markets, Institutions and Money, 17(2), 167-179.

Lahrech, A., & Sylwester, K. (2011). US and Latin American stock market linkages. Journal of International Money and Finance, 30(7), 1341-1357.

Masih, M., & Majid, H. A. (2013). Comovement of Selected International Stock Market Indices: A Continuous Wavelet Transformation and Cross Wavelet Transformation Analysis. http://mpra.ub.uni-muenchen.de/58313/.

Masih, R., & Masih, A. M. (2001). Long and short term dynamic causal transmission amongst international stock markets. Journal of international Money and Finance, 20(4), 563-587.

Phillips, P. C., & Perron, P. (1988). Testing for a unit root in time series regression. Biometrika, 75(2), 335-346.

Ratanapakorn, O., & Sharma, S. C. (2002). Interrelationships among regional stock indices. Review of Financial Economics, 11(2), 91-108.

Shahbaz, M., Tiwari, A. K., & Tahir, M. I. (2013). Analyzing Time-Frequency Relationship between Oil Price and Exchange Rate in Pakistan through Wavelets. Journal of Applied Statistics, DOI: 10.1080/02664763.2014.980784.

Torrence, C., & Compo, G. P. (1998). A practical guide to wavelet analysis. Bulletin of the American Meteorological society, 79(1), 61-78.

Yang, J., Kolari, J. W., & Min, I. (2003). Stock market integration and financial crises: the case of Asia. Applied Financial Economics, 13(7), 477-486.

Zhou, C. (1996). Stock market fluctuations and the term structure. Board of Governors of the Federal Reserve System Finance and Economics Discussion Series. FEDS Paper no. 96–3, Washington, D.C