Looking for Risk Premium and Contagion in Asia-Pacific Foreign Exchange Markets

International Review of Financial Analysis, Volume 13, Issue 4, Pages 381- 409, 2004

Posted: 28 Feb 2021

See all articles by Chu-Sheng Tai

Chu-Sheng Tai

Texas Southern University - Department of Accounting and Finance

Date Written: January 2, 2004

Abstract

This article tests pure contagion effects among four Asian foreign exchange markets, namely, Japan, Hong Kong, Singapore, and Taiwan during the 1997 Asian crisis. A conditional version of international capital asset pricing model (ICAPM) in the absence of purchasing power parity (PPP) is used to control for economic fundamentals or systematic risks. The empirical results show strong contagion effects in both conditional means and volatilities of those markets after systematic risks have been accounted for. Specifically, the contagion-in-mean effects are mainly driven by the past return shocks in Hong Kong, Singapore, and Taiwan. As for contagion in volatility, the lead/lag relationships appear to be multidirectional among Japan, Singapore, and Taiwan, but between Hong Kong and Singapore, and between Hong Kong and Taiwan, they are unidirectional, with Hong Kong playing the dominant role in generating negative volatility shocks. In addition, the conditional ICAPM with asymmetric multivariate general autoregressive conditional heteroscedastic in mean (MGARCH(1,1)-M) structure is able to explain/predict on average 17.28% of the return variations in those markets. Therefore, this study provide a further evidence that the time-varying risk premium is a very strong candidate in explaining the predictable excess return puzzle [Lewis, K. K. (1994). Puzzles in international financial markets. NBER Working Paper No. 4951] since the risk premia founded in this article are not only statistically significant but also economically significant.

Keywords: Contagion, Spillover, Time-varying risk premium, Multivariate GARCH-M

JEL Classification: C32, F31, G12

Suggested Citation

Tai, Chu-Sheng, Looking for Risk Premium and Contagion in Asia-Pacific Foreign Exchange Markets (January 2, 2004). International Review of Financial Analysis, Volume 13, Issue 4, Pages 381- 409, 2004, Available at SSRN: https://ssrn.com/abstract=3758651

Chu-Sheng Tai (Contact Author)

Texas Southern University - Department of Accounting and Finance ( email )

United States

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