Abstract
The past decade has demonstrated an increased need to better understand market risks which lead to global systemic crises. Financial institutions and conglomerates can incur huge financial losses in their asset portfolios due to volatility caused by extreme movements in the global financial markets. The recent increase in volatility in financial markets and the growing number in commercial failures is driving investors, and regulators to search for ways to calculate and measure portfolio risk exposure. One solution comes in the form of traditional market risk measures, Value-at-Risk (VaR) and Conditional Value-at-Risk (CVaR) and more common measures of systemic risk, Conditional Value at Risk (CoVaR), delta CoVaR, Marginal Expected Shortfall (MES) and systemic risk measure (SRISK).
However, in portfolio risk management investors make difficult investment decisions under complete market uncertainty and randomness of asset returns. In recent times, financial markets have experienced increased volatility and cross correlations trans- missions triggered by the recent COVID-19 pandemic. Hence, a thorough assessment of contagion risk, dependence structure among international stock markets with par- ticular focus in the tail behavior of extreme events is an important issue in financial risk management.
The purpose of new Basel III internationally agreed set of regulations in banks, in- surance, asset management, pension funds and organization of the financial market is largely to improve the rules of each sector, but also to reduce the overall systemic risk of the financial sector. This dissertation employs several econometric meth-
ods to examine contagion risk and spillover dynamics in emerging and developed economies as proxied by leading individual country exchanges. The study is divided into three separate essays with one common theme focusing on market linkages during
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extreme market volatility. In the first essay, we assess market risk between BRICS and crude oil markets. Previous studies in energy economics Demirer, Jategaonkar & Khalifa(2015) and Ji, Liu, Zhao & Fan (2018)) have investigated the role of energy stocks on financial markets. More so, crude oil has an important role on BRICS economies especially if the country is an oil importer like (China, India, and South Africa) or an oil exporter (Russia and Brazil). By focusing on BRICS, we can explore this delicate connection (linkage) in more detail with an application of innovative Markov switching and vine copula econometric tools that provide greater flexibility and allow complex dependence patterns using a rich mixture of bivariate copulas.
In the second essay, we investigate the nexus between BRICS, precious metal markets and more recently the cryptocurrency markets. While the role of commodity markets as safe-haven or hedging assets is well investigated, there is very little evidence show- ing meaningful role of cryptocurrencies on BRICS stocks markets. We explore the co-movements, risk spillovers and portfolio risk implications under extreme market conditions to try and identify whether portfolio managers should include precious metals and/or cryptocurrency into the investment strategy for risk management.
In the third essay, we investigate market dependence between emerging and developed markets under extreme volatility and flexible dynamic correlations. The developed markets include those of United States (US), United Kingdom (UK), France, Ger- man, Hong Kong, Japan and Australia) whereas the emerging market include (Brazil, Russia, India, China, Malaysia, Indonesia)
The data used in the study are obtained from various credible sources which include- Thomson Reuters Eikon and https://finance.yahoo.com databases and uses closing prices for the time period ranging from Jan 3, 2014–10 Jan, 2021. The dissertation contributes to the related literature in various ways. First it uses flexible econo- metric approaches to model and measure market risk taking into account various stylized facts of time series data such as heavy-tail dependence and volatility clus-
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tering. The modeling framework is implemented using a combination of single and regime switching conditional volatility with leverage effects to correctly specify the marginal distribution of asset returns; vine copula and extreme value theory to cap- ture the dependence structure and extreme tail risk; nonlinear portfolio optimization with rebalancing periods to assess risk measures on the minimum capital requirement using value at risk (VaR) and conditional value at risk (CVAR).
Second, this dissertation does not focus primarily on the theory but rather by illus- trating with empirical examples of real world problems. The three essays are provided in detail in Chapter 3; Chapter 4 and Chapter 5 where we cover a diverse set of topics in financial economics, and illustrate how principles, methodology, and models can be combined to solve real problems. Each chapter summarizes the key findings to draw important insights and conclusions for developing policy recommendations which can be used to implement risk mitigating strategies during normal and turbulent market conditions.
In Chapter 2, focuses on providing definitions and theoretical background on conta- gion and interdependence on international stock markets dynamics and the method- ological approaches in the literature starting with the traditional correlation as a measure of inter-dependence. In Chapter 3, Chapter 4 and Chapter 5, provides three separate essays that investigates empirical evidence of stock markets risk dependence structure.
Keywords— BRICS; vine copula; extreme value copula; volatility; dependence, VaR; CVaR; optimization.
JEL classification: C13, C15, G10, G11, G15.