Tail Risk Dynamics in Stock Returns: Links to the Macroeconomy and Global Markets Connectedness

47 Pages Posted: 1 Nov 2014 Last revised: 17 Apr 2017

Date Written: February 20, 2016

Abstract

We propose a new time-varying peaks over threshold model to study tail risk dynamics in equity markets: the laws of motion for the parameters are defined through the score-based approach. We apply the model to daily returns from U.S. size-sorted decile stock portfolios and show that large firm tail risk increases during recessions more than small firms tail risk. Our results are consistent with the granular hypothesis of aggregate fluctuations and we quantify the impact of large firms tail risk shocks on the economy. A measure of tail connectedness is proposed: evidence from international equity markets shows that tail connectedness increases during periods of turmoil.

Keywords: Time-Varying Tail Risk, Score-Based Model, Stock Returns, Uncertainty, Tail Connectedness

JEL Classification: C22, E32, G10, G15

Suggested Citation

Massacci, Daniele, Tail Risk Dynamics in Stock Returns: Links to the Macroeconomy and Global Markets Connectedness (February 20, 2016). Available at SSRN: https://ssrn.com/abstract=2517198 or http://dx.doi.org/10.2139/ssrn.2517198

Daniele Massacci (Contact Author)

Bank of England ( email )

United Kingdom

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