A Common Factor Analysis for the US and the German Stock Markets During Overlapping Trading Hours
22 Pages Posted: 13 Aug 2007
Abstract
We employ a bivariate common factor model to establish a permanent-transitory decomposition of two major stock indices (the Deutsche Aktienindex (DAX) for Germany and the Dow Jones Industrial Average (DJIA) for the United States). Using high-frequency data, we (1) identify a common trend shared by both indices, (2) find that the DJIA contributes up to 95% to the total innovation of the common factor, (3) show that both markets adjust within minutes to a system-wide shock, and (4) verify by hypothesis testing that the DJIA is the driving force in the transatlantic system of stock indices.
Keywords: Stock market cointegration, High-frequency data, Permanent-transitory decomposition
JEL Classification: C32, G15
Suggested Citation: Suggested Citation
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By Wenchao Liao