Volatility Spillovers Between Stock Returns and Foreign Exchange Rates: Evidence from Four Eastern European Countries

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1 Dublin Insiue of Technology Conference papers School of Accouning and Finance 008 Volailiy Spillovers Beween Sock Reurns and Foreign Exchange Raes: Evidence from Four Easern European Counries Lucia Morales Dublin Insiue of Technology, Follow his and addiional works a: hp://arrow.di.ie/buschaccon Par of he Finance and Financial Managemen Commons Recommended Ciaion Morales, L.: Volailiy spillovers beween sock reurns and foreign exchange raes: evidence from four easern European counries. Paper presened o he Financial Managemen Associaion (FMA European Conference, 4-6 June 008, Prague, Czech Republic. Conference Proceedings. This Conference Paper is brough o you for free and open access by he School of Accouning and Finance a ARROW@DIT. I has been acceped for inclusion in Conference papers by an auhorized adminisraor of ARROW@DIT. For more informaion, please conac yvonne.desmond@di.ie, arrow.admin@di.ie.

2 Volailiy Spillovers Beween Sock Reurns and Foreign Exchange Raes: Evidence from Four Easern European Counries Lucia Morales Dublin Insiue of Technology Ireland Keywords: Sock Reurns, Exchange Raes, Inegraion, Volailiy spillovers, EGARCH modeling. JEL Codes: F, G Absrac This paper invesigaes he naure of volailiy spillovers beween sock reurns and exchange raes changes for he Czech Republic, Hungary, Poland and Slovakia for he period. We divide our sample in wo sub period, prior o he inroducion of he Euro as since he single currency has been inroduced. We use an EGARCH modelling which akes ino accoun wheher bad news has he same impac on volailiy as good news. Our resuls show ha in erms of volailiy spillover effecs from sock reurns o exchange raes reurns, here is non-exisence of significan spillovers in hese counries, wha sugges he no exisence of inegraion beween hese wo financial markes. If we analyse he spillover effecs from exchange raes o sock markes we found ha he overall resuls is he lack of significan spillovers from exchange rae o sock reurns. We also found ha volailiy in sock reurns and exchange raes ends o decrease afer he counries joined he European Union. 1

3 1. Inroducion The objecive of his aricle is o provide an empirical analysis of he linkage beween he volailiy of sock prices and he volailiy of he exchange rae for four Easern European counries. As empirical evidence on volailiy spillovers beween sock markes and exchange raes have ended o focus on he G-7 counries, Yang and Doong (004; Kanas (000,00. There is no evidence o dae ha his relaionship have been analysed for he Easern European counries. Therefore, our aim is o fill he gap in he lieraure in his area by invesigaing his issue, using daily daa for he period of 1999 o 006 for Hungary, Czech Republic, Slovakia and Poland, four ransiion economies. As Easern European counries have experienced remarkable changes in heir seings of exchange rae arrangemens, as well as in moneary policy, Fromer(006 being he main characerisic of pos-communis counries o sar he process of ransiion by oping for sabilizaion sraegy in erm of fixing he exchange rae. Subsequenly, his fixed exchange rae regime becomes more flexible (Sachs, 1996, and afer widening he bands wha is ranslaed in an increase in he flexibiliy ha will leads o an increase in exchange rae volailiy. Taking ino accoun hese characerisics we decided o analyse he link beween sock reurns and exchange rae for he period of ime before he counries joined he European Union (EU, ha is before he 1 s of May of 004, and afer he period of ime ha he joined EU. Also, as exchange rae volailiy have a direc influence on he labour marke, in order o increase or decrease he level of unemploymen, ha have a direc impac in he growh rae of an economy and as a resul will influence he foreign direc invesmen in a counry which is refleced in he sock reurns, his issue become of grea ineres for academics and praciioners. The layou of he paper is as follows. Secion 1 reviews he exising empirical evidence on he issue unil oday. Secion ses ou he daa and mehodology used o invesigae his issue. Secion 3 discusses he resuls from he economeric analysis and secion 4 summarize and conclude he paper.

4 . Lieraure Review Several heoreical models have analysed he link beween sock markes and currency markes. The asse marke approach o exchange rae deerminaion (Branson, 1983; Frankel, 1983 posis ha causaliy will run from sock prices o exchange rae changes as expecaions of financial asse price movemens affec he dynamics of exchange raes. Smih (199 derives an esimable equaion for he exchange rae where he sock price is included as an explanaory variable. The goods marke approach suggess causaliy runs in he opposie direcion, from exchange raes o sock prices (Mundell, 1963, 1964; Dornbusch and Fisher, In hese models, movemens in exchange raes affec he inernaional compeiiveness of firms which affecs real income and oupu and evenually sock prices. Much of he available empirical evidence on he linkages beween sock markes and exchange raes has concenraed on he firs momens 1. Yang and Doong (004 noe ha here is a dearh of empirical evidence ha concenraes on he linkages beween he second momens of he disribuion of he variables. A number of sudies however have examined he exen o which volailiy from one sock marke spills over ino oher sock markes or beween differen asses. Kanas (000 was one of he firs sudies which analysed volailiy spillovers from sock reurns o exchange rae changes in he USA, he UK, Japan, Germany, France and Canada. He found evidence of spillovers from sock reurns o exchange rae changes for all counries excep Germany, suggesing ha he asse approach o exchange rae deerminaion is valid when formulaed in erms of he second momens of he exchange rae disribuion for he counries included in his analysis. Volailiy spillovers from exchange rae changes o sock reurns were insignifican for all counries. Yang and Doong (004 explored he naure of he mean and volailiy ransmission mechanism beween sock and foreign exchange markes for he G-7 counries. The resuls poin o significan volailiy spillovers and an asymmeric effec from he sock marke o he foreign exchange marke for France, Ialy, Japan and he US, suggesing inegraion beween sock and foreign exchange markes in hese counries. Wang and Yang (006 find 1 See for example Nieh and Lee (001, Yau and Nieh (006 for recen evidence on his opic. See also for example, Nelson (1991, Koumos and Booh (1995, Laopodis (

5 evidence of asymmeric volailiy in daily realized volailiies of AUD, GBP and JPY agains USD, as well as daily GARCH-esimaed volailiies in rade weighed indices;, he found ha here is no asymmeric volailiy in EUR agains USD and is rade weighed indices, hey also documen a srong impac from long-run price rend o daily realized volailiy. Savva e al. (005 invesigaes he ransmission of price and volailiy spillovers across he New York, London, Frankfur and Paris sock markes under he framework of he mulivariae EGARCH model, he found evidence ha domesic sock reurns and volailiies are influenced by he behaviour of foreign markes, wih boh volailiies and condiional correlaions responding asymmerically o news/innovaions in oher markes. Their findings also indicae ha he correlaions of reurns have increased for all markes since he launch of he Euro. Wu (005 who examines volailiy spillovers beween sock prices and exchange raes for Japan, Souh Korea, Indonesia, Philippines, Singapore, Thailand and Taiwan for he period , spliing he sample ino crises and recovery periods. He found a bi-direcional relaionship beween he volailiy of sock reurns and exchange rae changes during he recovery period in all counries excep Souh Korea, as well as significan conemporaneous relaionships beween he wo markes for mos of he counries. Furhermore, he found volailiy spillovers increased in he recovery period. Dark e al (005 examined he reurn and volailiy spillover effecs beween he US dollar/ausralian dollar (USD/AUD, and he Ausralian All Ordinaries index (AOI. The empirical findings provide evidence of unidirecional reurn an volailiy spillover effecs from he USD/AUD o he AOI. 3. Daa and Mehodology The analysis will be conduced wih he purpose of invesigaing volailiy spillovers beween sock reurns and exchange rae changes for four Easern European counries, Czech Republic, Hungary, Poland and Slovakia, for he period 1 January 1999 o 11 July 006. In order o analyze he relaionship beween hese wo variables, we consider ha spliing our sample ino wo sub samples ha will provide more deail and a beer undersanding of volailiy spillovers beween sock reurns and exchange raes. Therefore, we spli our ino wo sub sample samples, iniially we 4

6 will analyze he relaionship beween hese wo variable before he inroducion of he Euro, so our firs sub sample will analyze from 01/01/1999 o 30/04/004 pre inroducion of he Euro period, hen we analyze he ime period afer he inroducion of he Euro ha will cover from 30/04/004 o 11/07/006 pos Euro period. Our sample has a oal of 1963 observaions. Daa was aken from DaaSream and he Federal Reserve Saisic Release. Following Kanas (000 we use coninuously compounded sock reurns and exchange rae changes calculaed as he firs s s differences of he naural log. Tha is, S= Sock Prices; ln ( P ln ( P e e Exchange Raes; ln ( P ln ( P E 1 =. S 1 = and E= As an iniial sep we provide descripive saisics for sock reurns and exchange raes, in order o summarize he saisical characerisics of our sample. We hen proceed and perform a saionariy es on each of he relevan variables ha are included in our analysis o ensure ha he resuls from he analysis are no spurious. We apply he Dickey Fuller (DF es or Augmened Dickey-Fuller es (ADF procedure if serial correlaion is presen. We also apply he Lagrange Muliplier (LMF es, o ensure ha a sufficien number of lags have been added in he ADF es o ensure ha here is no serial correlaion presen and he resuls of he ADF es are valid. The LMF es is applied given ha i is valid in he presence of lagged dependen variables as well as having he advanage of esing for firs and higher orders of serial correlaion. If our variables are non-saionary in levels, we hen proceed and perform a coinegraion es on our variables using he Johansen Coinegraion es o invesigae he long-run relaionship beween Sock Prices and Exchange Raes. As Enders (004 noes given ha he resuls of he es can be quie sensiive o he lag lengh, he mos common procedure is o esimae a Vecor Auoregression (VAR model on he undifferenced daa in order o deermine he lag lengh for he Johansen es. We esimae he lag selecion ess up 0 lags. In erms of choosing beween he various lag lengh selecion crieria we follow Johansen e al. (000 who sugges ha when differen informaion crieria sugges differen lag lenghs, i is common pracice o prefer Hannan-Quinn (HQ crieria. Again, we ensure ha he lag lengh seleced for he VAR model is free from serial afer performing by applying he LMF es o es for serial correlaion up o he number of 5

7 lags in he VAR model. There are five possible models o choose from for he Johansen es as follows. H (r : Π y -1 + B x = α B y -1 (1 H* 1 (r: Π y -1 + B x = α (B y -1 + p 0 ( H 1 (r : Π y -1 + B x = α (B y -1 + p 0 + α γ 0 (3 H* (r : Π y -1 + B x = α (B y -1 + p 0 + p 1 + α γ 0 (4 H (r : Π y -1 + B x = α (B y -1 + p 0 + p 1 + α (γ 0 +γ 1 (5 Equaion 1 has no deerminisic rends in he level daa and no inerceps in he coinegraing equaions. Equaion has no deerminisic rends in he level daa and he coinegraing equaions have inerceps. Equaion 3 has linear rends in he level daa bu he coinegraing equaions only have inerceps. Equaion 4 has linear rends in boh he level daa and he coinegraing equaions, and equaion 5 has quadraic rends in he level daa and linear rends in he coinegraing equaions. Harris and Sollis (003 noe ha model 1 i.e. wih no deerminisic componens in he daa or coinegraion relaions, is unlikely o occur in pracice, as generally an inercep is needed o ake accoun of he unis of measuremen of he variables; hey also noe ha model 5 wih quadraic rends, is economically hard o jusify, as if he variables are enered in logs, as hey are in our model, as his would imply an every increasing or decreasing rae of change. This leaves a choice beween models -4. Johansen (199 suggess choosing he appropriae model according o he Panula principle; all hree models are esimaed; he Panula principle involves moving hrough each model for he null hypohesis of r=0, hen r=1 ec., and picking he model where he null hypohesis is rejeced for he firs ime. Chang and Caudill (005 noe ha he λ race es saisic is more robusness o boh skewness and excess kurosis han he λ max es saisic; for comparaive purposes, we show boh he resuls of he λ race and he λ max es saisics. We hen proceed wih our volailiy analysis and apply a bivariae exension of he EGARCH (p,q model in order o examine wheher he volailiy of sock reurns affecs and is affeced by he volailiy of exchange rae changes wihin each 6

8 economy. The EGARCH specificaion (Nelson, 1991 is used in order o es wheher he volailiy spillover effecs are asymmeric. For example, an asymmeric spillover from sock reurns o exchange rae changes would sugges ha he effec of bad sock marke news on he exchange rae change is greaer han he effec of good news. The model is specified as follows: S E = a = a r r s, 0 + as, is i + ae, i E i + sλs, 1 + i= 1 i= 1 r r 0 + a i E i + as, is i + Eλ 1 + i= 1 i= 1 β e (6 S, β e (7 e e S, / Ω 1 N(0, σ S, / N(0, σ Ω 1 The condiional variances of sock reurns and exchange raes changes are specified as follows: ps σ S = exp cs,0 + b j= 1 (8 ps σ E = exp c 0 + b j= 1 (9 log( σ + δ, S, j S, j S, S S, 1 S, 1 S, Szs, T 1 log( σ + δ, j j E 1 1 Ezs, T 1 σ = S, T ρ S, Eσ S, σ [( z E z + θ + δ [( z E z + θ ] S, E 1 1 S, Ez 1 [( z E z + θ + δ [( z E z + θ ] S S, 1 S, 1 Sz 1 We summarize each of he relevan erms in equaions (6-9 in Table 1. Error correcion erms (lagged residuals from he coinegraing regression of Sochasic error erms Informaion se a ime -1 Table 1 Descripion of Parameers Equaions (6-(9 Sock Reurns S, E, 1 Condiional (ime varying variances σ S, Exchange Rae Reurns λ S λ 1 e S, e E, Ω 1 Ω 1 σ Sandardized residuals assumed o be normally disribued wih 0 mean and variances of σ, σ S, z S, = es, /σ S, e S, / Ω 1 ~ N(0, σ S, z = e /σ e E, / Ω 1 ~ N(0, σ 7

9 ps pe Persisence of Volailiy b S, j b E, j j= 1 j= 1 θ S, S,θ E [ z ] allow his effec o be asymmeric S, E zs, + θ S, Sz S z, E z + θe, Ez E, ARCH effec where he parameers [ ] Volailiy Spillover δ [ z E z + θ ] δ [ z E z + θ ] Measures of spillovers Asymmery of Spillovers 3 Correlaion Coefficien for Sandardized Residuals S, E 1 1 S, Ez E, 1 S S, 1 S, 1 SzSS 1 δ S,E δ S θ S,E θ S ρ S, E ρ S We specify he number of lags for he condiional mean equaions (6 and (7 using he HQ crierion; Griffin e al (005 Andersen e al (004 and Sulz e al (00 all noe ha he Hannan-Quinn selecion crierion is preferable o he more commonly used Akaike s Informaion Crieria (AIC, as he laer ends o over parameerize he models 4. Nex we apply he likelihood raio (LR es o deermine he lag runcaion lengh, p. We perform separae LR es on he sock reurns and exchange rae condiional variance equaions (8 and (9 o deermine he opimal lag lengh for he EGARCH specificaion of each equaion. Hamilon (1994 defines he ~ L( ˆ θ L( θ χ ( m, where L(θˆ denoes he value of he log LR es as follows: [ ] ~ likelihood funcion a he unresriced esimae and L(θ denoes he value of he log likelihood funcions of he resriced esimae. Bollerslev-Woolridge robus -saisics are derived o ake ino accoun possible non-normaliy of he residuals. Given ha our sample period covers he period before and afer he inroducion of he Euro, we spli our sample in order o compare he effec of volailiy spillovers before and afer he inroducion of he Euro. All resuls are generaed using he EVIEWS saisical program. This will yield seven separae ses of resuls for he various exchange raes included in he analysis. 3 θ S,E <0, θ S, E more han posiive shocks <0, implies ha negaive exchange rae shocks increase he volailiy of sock reurns 4 For breviy here we do no repor he number of lags seleced for he condiional mean equaions for sock prices and exchange raes for each period. 8

10 4. Empirical Resuls Our sudy sars presening he resuls obained from he descripive saisics for sock reurns and exchange raes ha will se he characerisics of our sample. As is possible o observe in able 1 for he enire period, he sample means of sock reurns are posiive for Slovakia and Poland, while he mean is negaive for Hungary and he Czech Republic. The resuls are posiive for all he counries during he period ha he counries did no join he European Union (EU, and afer 1 s of May 004, when he counries joined he EU. The highes mean reurns were for Poland, 6.35E-04, followed by Slovakia 6.99E-05, for he pre-european period, he mean reurns were highes for Czech Republic, and Poland, , followed by Slovakia and Hungary, and for he pos-european period hey were highes for Slovakia ( followed by Hungary (0.001, Poland ( and Czech Republic ( The sandard deviaion of he sock reurns range from 0.9% o 1.6% for he enire period and from 1, 9% o 1.5% for he pre-european period and from 1.40% o 1.01% o he pos-european period, indicaing ha he volailiy of sock reurns in general were lower in he period afer he counries joined he EU, han during he period of ime previous o join he European Union. The skewness and kurosis coefficiens indicaes ha sock reurns are lepokuric in relaion o he normal disribuion, being his a common finding for sock reurns, as Caporale e al (00 noice. The Jarque-Bera (JB ess are very high, meaning ha he null hypohesis of sock reurns normally disribued is rejeced for all he counries in all he periods. The descripive saisics for he exchange rae reurns show ha he sample means are posiive for he enire period for he Czech Republic, Slovakia and Poland. For he pre-european period he means are posiive jus for Poland and for he pos- European Union being posiive only for Hungary. The volailiy of he exchange rae reurns ranged from 1.33% (Poland o 4% (Czech Republic for he enire period. During he pre-european period he highes volailiy was found in Poland wih 6.6% and he lowes in Slovakia wih 3%, and in pos-european period i moved beween.6% (Slovakia o 5% (Poland, being he highes volailiy period he pre-european. 9

11 Sock Reurns Hungary Czech Republic Slovakia Poland Table 1 Descripive Saisics Mean SD Skewness Kurosis JB Toal sample -5.94E Pre Europe Pos Europe Toal sample -1.18E Pre Europe Pos Europe Toal sample 6.99E Pre Europe Pos Europe Toal sample 6.35E Pre Europe Pos Europe Exchange Raes Hungary Toal sample Pre Europe Pos Europe Czech Republic Toal sample Pre Europe Pos Europe Slovakia Toal sample Pre Europe Pos Europe Poland Toal sample Pre Europe Pos Europe Mean SD Skewness Kurosis JB -1.10E E E E E E E E Afer analysing he descripive saisics of our daa, we proceed o presen he findings of our economeric models. The resuls from he ADF ess are given in able. The saisics are showing ha we can rejec he null hypohesis of he exisence of uni roo in levels for all variables in all periods, indicaing ha all series are I(0. 10

12 Table Augmened Dickey Fuller Tes Resuls Variables Toal Sample Pre Europe Pos Europe Hungary E S Czech Republic E S Slovakia E S Poland E S % criical values for he ADF es are Given ha all our variables are inegraed a levels we can conclude ha our variables are coinegraed, his means, ha here is a long-run relaionship beween sock reurns and exchange rae reurns for all he counries in all he periods. Therefore, is no necessary o implemen he Johansen s (199 coinegraion es. Hence, we proceed o apply he likelihood raio (LR es in order o deermine he runcaion lengh (p for our condiional equaions in he bivariae EGARCH model. We perform and individual LR es on he sock reurns and exchange rae condiional variance equaions o deermine he opimal lag lengh for he EGARCH specificaion of each equaion. Table 3 Likelihood Raio Tes for EGARCH Model Selecion for Condiional Variance Equaions Sock Reurns Exchange Raes Counry Toal Sample Pre Europe Pos Europe Toal Sample Pre Europe Pos Europe Hungary Czech Republic Slovakia * Poland Noe: H 0: EGARCH (1,1, H 1: EGARCH(,1 The 5% criical value for he LR es disribued as freedom is * indicaes rejecion of he null hypohesis a 5% significance. χ wih degrees of 11

13 The resuls are showed in able 3 indicaing ha we selec he EGARCH (1,1 for all he counries in all he periods wih he excepion of Slovakia where he EGARCH (,1 model is seleced for he enire period. The resuls from he EGARCH model esimaions are se ou in ables 4 o 6 for he oal sample, pre- European period and pos-european period respecively. Our analysis will presen resuls in erms of volailiy persisence, volailiy spillover effecs and asymmeric spillover effecs. In relaion o he coefficiens on he volailiy persisence erm he resuls indicae ha here is significan persisence in sock reurns volailiy for all he counries during he hree periods. For he exchange rae equaion, he resuls are showing ha he coefficiens are all significan for he enire period and for he pre- European period, while we found ha for he pos-european period volailiy persisence for exchange rae reurns are no significan in he case of Hungary and Poland, being significan for he Czech Republic and Slovakia.. A necessary condiion o he volailiy persisence erms o be sable is ha he value of he esimaed coefficiens should be less han one, Wu (005, for our resuls his condiion applies in all of he cases. The coefficiens for he volailiy spillover effecs from sock reurns o exchange rae reurns shown ha he coefficiens are no significan for all he counries, for he hree periods of analysis wih he excepion on Czech Republic were he coefficien is significan afer he counry joined he EU. The non-exisence of significan spillovers is hese counries indicae he exisence of poenial for diversificaion beween sock markes and currency markes. Surprisingly, hese resuls show ha volailiy of sock reurns is no a deerminan of he volailiy of he exchange rae, suggesing he no exisence of inegraion beween hese o markes. The resuls also, indicae ha volailiy informaion conained in sock prices does no impac in he behaviour of exchange raes in hese markes. In erms of volailiy spillovers from exchange raes o sock markes, we found ha he esimaed coefficiens were insignifican for all he counries for he enire period, insignifican as well for he pre-european periods wih he excepion of Poland and same resuls were found for he pos-european periods, being in his case 1

14 Hungary he excepion, where we found a significan coefficien. The lack of significan spillovers from exchange rae changes o sock reurns found in mos of he cases are consisen wih he resuls found by Jorion (1990 and Yang and Doong (005. Jorion (1990 explained ha he lack of spillovers could be due o posiive exchange rae volailiy on sock reurns for some firms offseing negaive exchange rae volailiy on sock reurns for oher firms, o give an insignifican or weak effec overall. In addiion o his, he use of insrumens o hedge exchange rae risk, may reduce he impac of exchange rae volailiy on sock markes; Gran and Marshall (1997 and Bodnar e al. (1995 boh noe ha he use of hedging insrumens o ameliorae exchange rae risk is pervasive amongs larger companies which are he main componens of naional sock marke indices. Finally, for he asymmeric spillover effecs from sock reurns o exchange raes, we find ha he coefficiens are significan in he case of asymmeric spillover effecs from sock reurns o exchange raes and vice versa in all he counries for all ime periods. The posiive sign on all significan coefficiens indicaes ha unexpeced good news has a greaer impac on volailiy han unexpeced bad news. A possible explanaion for his is ha good news on sock prices may have a greaer impac on demand for currency so increasing volailiy as foreign invesors wan o increase holdings of risings sock, also, good news on exchange raes may have a greaer impac on demand for socks as invesors swich beween holdings of socks and currency, so impacing on sock marke volailiy. The diagnosic ess on he sandardized residuals are showed as par b of he respecive ables. The Jarque-Bera (JB es indicaes ha we rejec he null hypohesis of residuals normally disribued (jusifying he use of Bollerslev- Woolridge robus -saisics, being he excepion of he residuals for he exchange rae equaion in he pos-european period for Czech Republic and Poland were he residuals are normal disribued. The Ljung-Box saisics for all hree periods for all counries indicaes ha here are no residual linear or nor linear dependencies, wih wo excepions, where here is linear dependency in he sock reurn equaion for Hungary and Slovakia for 13

15 he oal sample, alhough for he pre-european period and pos-european period separaely he dependencies are absen. Finally, and in order o check he validiy of he assumpion of consan correlaion adoped in he esimaion of he bivariae models he LB saisics for he cross producs of he sandardised residuals from he sock reurns equaion and from he exchange rae equaion were calculaed for he hree counries for each ime period. We found ha in almos all he cases he p-values were insignifican, jus wih he following excepions: During he pos Euro period we found ha he LB for Hungary become significan a LB(30 and in he case of Poland in become significan for he LB(4. We also found ha for he pre Euro period again he coefficien become significan a LB(9 and for Poland a LB(3 indicaing ha he assumpion of consan correlaion over ime can be acceped in all he cases. Table 4a Volailiy Spillovers beween Sock Reurns and Exchange Rae Changes: Toal Sample Esimaed Parameers Hungary Czech Republic Slovakia Poland Volailiy Persisence (Sock Reurns ( b S Spillover: from Sock Reurns o Exchange Raes ( δ S, E Asymmeric Spillover effec: From Sock Reurns o Exchange Raes ( θ S, E Volailiy Persisence (Exchange Raes ( b E Spillover: from Exchange Raes o Sock Reurns ( δ S, E Asymmeric Spillover effec: From: Exchange Raes o Sock Reurns ( θ S, E Correlaion Coefficien ( ρ S, E ( ( ( ( ( ( ( ( ( (

16 Table 4b Diagnosics on Sandardised Residuals: Residuals: Toal Sample Hungary Czech Republic Slovakia Poland Sock reurn equaion Jarque-Bera LB( (0.005 (0.11 ( (0.997 (0.377 (0.531 (0.544 LB²(0 Exchange rae equaion Jarque-Bera LB( (0.849 (0.803 (0.15 ( (0.964 (1.000 (0.931 (0.901 LB²(0 Cross Producs Jarque-Bera LB( (0.054 (0.967 (0.055 (0.070 LB²( (0.83 (1.000 (0.448 (1.000 Table 5a Volailiy Spillovers beween Sock Reurns and Exchange Rae Changes: Pre Europe Esimaed Parameers Hungary Czech Republic Slovakia Poland Volailiy Persisence (Sock Reurns ( b S Spillover: from Sock Reurns o Exchange Raes ( δ S, E Asymmeric Spillover effec: From Sock Reurns o Exchange Raes ( θ S, E Volailiy Persisence (Exchange Raes ( b E Spillover: from Exchange Raes o Sock Reurns ( δ S, E Asymmeric Spillover effec: From: Exchange Raes o Sock Reurns ( θ S, E Correlaion Coefficien ( ρ S, E ( ( ( ( ( ( ( ( ( ( ( (

17 Table 5b Diagnosics on Sandardised Residuals: Residuals: Pre Europe Hungary Czech Republic Slovakia Poland Sock reurn equaion Jarque-Bera LB( (0.44 (0.065 (0.346 ( (0.08 (0.688 (0.956 (0.658 LB²(0 Exchange rae equaion Jarque-Bera LB( (0.94 (0.934 (0.03 ( (1.000 (0.985 (0.999 (0.996 LB²(0 Cross Producs Jarque-Bera LB( (0.043 (0.479 (0.461 (0.437 LB²( (0.001* (1.000 (0.976 ** *LB(9:48.94(0.01;**LB(3:4.95(0.177 Table 6a Volailiy Spillovers beween Sock Reurns and Exchange Rae Changes: Pos Europe Esimaed Parameers Hungary Czech Republic Slovakia Poland Volailiy Persisence (Sock Reurns ( b S Spillover: from Sock Reurns o Exchange Raes ( δ S, E Asymmeric Spillover effec: From Sock Reurns o Exchange Raes ( θ S, E Volailiy Persisence (Exchange Raes ( b E Spillover: from Exchange Raes o Sock Reurns ( δ S, E Asymmeric Spillover effec: From: Exchange Raes o Sock Reurns ( θ S, E Correlaion Coefficien ( ρ S, E ( ( ( ( ( ( ( ( ( ( ( (

18 Table 6b Diagnosics on Sandardised Residuals: Residuals: Pos Europe Hungary Czech Republic Slovakia Poland Sock reurn equaion Jarque-Bera LB( ( ( ( ( ( ( ( (0.676 LB²(0 Exchange rae equaion Jarque-Bera LB(0 LB²(0 Cross Producs 5.38 ( ( ( ( ( ( ( (0.891 Jarque-Bera LB( (0.1 (0.00 (0.477 (0.01 LB²( * (0.50 (1.000 ** *LB(30:51.03; LB(4:10.848( Summary and Conclusions The aim of his sudy was o provide empirical evidence of he linkage beween volailiy of sock prices and volailiy of exchange rae for four Easern European counries (Hungary, Czech Republic, Slovakia and Poland. We proceed in wo main seps. Firs we analyzed he descripive saisics of our daa and we check ha he daa fulfil he requiremens ha are needed in order o implemen our economeric mehodology. The second sep was o employ EGARCH modelling o analyze he relaionship beween our wo variables. Our empirical resuls showed ha volailiy in sock reurns and exchange raes ends o decrease afer he counries joined he European Union, hese resuls could be explained by he fac ha ransiion economies sar heir sabilizaion process influencing exchange raes, where hey normally move from a floa exchange rae regime, o a fixed exchange rae regime. Afer he exchange rae becomes sable hey come back o a more flexible regime (Sachs, 1996 his whole process is ranslaed in an increase in he exchange rae volailiy, bu afer he counries joined he EU, he exchange rae becomes peg o he Euro. And as fixed exchange raes 17

19 regimes are srongly associaed wih open economies a counry will be increasing is credibiliy in he financial markes, which will be more aracive condiions for poenial invesors. The las years in erms of exchange raes policies for hese counries have been marked by wo main rends, ha is an increasing flexibiliy of he exchange raes regimes and an increasing orienaion of he exchange rae prices policies owards he Euro, where he exchange raes of hese economies will be peg o he European currency, Eger and Lahroche Revil (003. In erms of volailiy spillover effecs from sock reurns o exchange raes reurns, here is non-exisence of significan spillovers in hese counries, wha sugges he no exisence of inegraion beween hese wo markes. If we analyse he spillover effecs from exchange raes o sock markes we found ha he overall resuls is he lack of significan spillovers from exchange rae o sock reurns, siuaion ha can be explained as Jorion (1990 sugges, ha is, he posiive exchange rae volailiy on sock reurns for some firms offseing negaive exchange rae volailiy for oher firms, o give an insignifican effec aferwards. Finally, for he asymmeric spillover effecs we found ha his effec is relevan for all he counries, from sock reurns o exchange raes, having all he coefficiens a posiive signs wha is inerpreed as follow: good news has a greaer impac on volailiy han unexpeced bad news. Our resuls are showing ha he lack of volailiy spillovers beween sock markes and exchange raes in mos of he counries creae he perfec condiions for invesors in erms o diversify heir porfolios in he Easern European counries ha have been included in our analysis. 18

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