Breaks and Persistency: Macroeconomic Causes of Stock Market Volatility
Università di Milano Bicocca; Università degli Studi di Milano-Bicocca - Department of Economics, Quantitative Methods and Business Strategies (DEMS); Center for Economic Research on Pensions and Welfare Policies (CeRP); University of Bologna - Rimini Center for Economic Analysis (RCEA)
Bocconi University - Department of Finance
Journal of Econometrics, Vol. 131, No. 2, pp. 151-177, April 2006
In the paper we study the relationship between macroeconomic and stock market volatility, using S&P500 data for the period 1970-2001. We find evidence of a twofold linkage between stock market and macroeconomic volatility. Firstly, the break process in the volatility of stock returns is associated with the break process in the volatility of the Federal funds rate and M1 growth. Secondly, two common long memory factors, mainly associated with output and inflation volatility, drive the break-free volatility series. While stock market volatility also affects macroeconomic volatility, the causality direction is stronger from macroeconomic to stock market volatility.
Keywords: Stock market volatility, macroeconomic volatility, long memory, fractional cointegration, structural change
JEL Classification: C32, F30, G10
Date posted: March 9, 2006