Momentum and Nonlinear Price Discovery in Sovereign Credit Risk and Equity Markets of the Organization of Islamic Cooperation (OIC) Countries

Jurnal Ekonomi Malaysia 46(2), 2012

14 Pages Posted: 31 Oct 2018

See all articles by M. Kabir Hassan

M. Kabir Hassan

University of New Orleans - College of Business Administration - Department of Economics and Finance

Geoffrey Ngene

Mercer University - Eugene W. Stetson School of Business and Economics

Date Written: 2012

Abstract

This paper hypothesized that there is a differential response by agents to changes in sovereign credit risk in both calm (low default risk) and turbulent (high default risk) markets. These market conditions create two different states of the world or regimes. The two model regimes have been made using threshold cointegration and vector error correction model in three possible pairs of sovereign CDS, bond and equity markets for four emerging markets. Moreover, evidence of momentum in cointegration relationships in 75% of the time. Positive and negative divergences adjust to equilibrium relationship and value (threshold) at different speeds and magnitudes depending on the regime. Moreover, short-term nonlinear adjustment process is found in 50% of possible asymmetries. The informativeness of each asset in a pair is nonlinear and regime dependent in 14/24 possible price discovery processes. Therefore, dynamic interaction among assets held in a portfolio shift with regime change. Investors, in making decisions regarding portfolio rebalancing and hedging against downside risk need to identify when regimes change to make informed decisions while policy makers need to identify the threshold below or above which policy intervention in the market becomes necessary. Linear modeling may provide mis-specified and biased results as indicated by comparative results of linear and nonlinear modeling.

Keywords: price discovery, financial integration CDS, sovereign bonds, equity index, credit risk

Suggested Citation

Hassan, M. Kabir and Ngene, Geoffrey, Momentum and Nonlinear Price Discovery in Sovereign Credit Risk and Equity Markets of the Organization of Islamic Cooperation (OIC) Countries (2012). Jurnal Ekonomi Malaysia 46(2), 2012 , Available at SSRN: https://ssrn.com/abstract=3263298

M. Kabir Hassan (Contact Author)

University of New Orleans - College of Business Administration - Department of Economics and Finance ( email )

2000 Lakeshore Drive
New Orleans, LA 70148
United States

Geoffrey Ngene

Mercer University - Eugene W. Stetson School of Business and Economics ( email )

1400 Coleman Av
Macon, GA 31207
United States

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