Oil shocks and financial systemic stress: International evidence

By conducting a structural VAR analysis on the financial systemic stress in 20 countries, this paper provides international evidence that oil structural shocks impact not only stress in individual financial markets but also their connectedness. The oil structural shocks explain a large fraction of the variation in the connectedness among various financial markets. The effect of oil structural shocks on financial systemic stress is largely dependent on the origins of oil price changes and a country's net oil export position. In most oil importing economies, financial systemic stress is negatively impacted by supply and aggregate demand shocks and positively impacted by oil-market specific demand shocks. Opposite patterns are detected in oil exporting economies. The effects of the spillovers are asymmetrically related with market conditions: During normal periods, more risks are spilled over from the oil market to financial systems, but during financial crises, the opposite occurs. In periods of financial crises and oil price collapses, there is noticeable contagion between the oil market and financial systems.     

Does the U.S. economic policy uncertainty connect financial markets? Evidence from oil and commodity currencies

We provide novel insight to the emerging literature on the role of U.S. monetary policy as a driver of a global financial cycle by examining the possible causal effect of U.S. economic policy uncertainty on the connectedness of crude oil and currency markets, using a sample of commodity currencies from advanced and emerging nations. A battery of linear and nonlinear Granger-based causality tests indicate the presence of a causal relationship between economic policy uncertainty and the connectedness of oil and currency markets, particularly at low frequencies and more significantly after the outburst of the global financial crisis. While crude oil generally serves as a net transmitter of shocks to currencies across all frequency bands, the spillover effects from oil are largely concentrated towards the G10 currencies of Australian and New Zealand dollar that are often used as investment currencies in global carry trade strategies. Overall, our findings suggest the presence of a significant pass-through effect of economic policy uncertainty via oil prices, spilling over to the currency market, in line with the emerging evidence that the monetary policy by the U.S. Fed serves as a major driver of a global financial cycle that describes patterns in global capital flows, credit activity and asset prices across financial markets.     

Time-varying co-movements between energy market and global financial markets: Implication for portfolio diversification and hedging strategies

This study explores the time patterns of volatility spillovers between energy market and stock prices of seven major global financial markets including clean energy, energy, information technology corporations, equity markets and United States economic policy index over the period vary from December 28, 2000 to December 31, 2018. We employ a time domain connectedness measures of Diebold and Yilmaz (DY, 2009, 2012 and 2014) to examine spillover mechanism of volatility shocks across future markets. Optimal weights and hedge ratios are calculated for portfolio diversification and risk management. The main findings of the study conclude that oil shocks are exogenous and contribution of oil market volatility to global financial markets is insignificant. The returns of World Stock Index and World Energy Index are major transmitters of volatility to clean energy market. Moreover, the impact of energy market become strong in global financial market when data is divided into pre, during and post financial crisis periods. Finally, the hedge ratios are volatile over time and their maximum value is observed during the financial crisis period of 2008–09. The optimal portfolio between energy and stock prices are heavily weighted to the stock markets.     

Oil shocks and stock markets revisited: Measuring connectedness from a global perspective

This paper contributes to the large volume of empirical studies on the relationship between oil shocks and stock markets from a new systemic perspective. The method of measuring connectedness proposed by Diebold and Yilmaz (2009, 2012, 2014) is adopted to study the relationship between oil shocks and returns at six major stock markets around the world. It is shown that the contribution of oil shocks to the world financial system is limited. Oil price changes, however, can be explained by information on the financial system. Furthermore, a rolling windows analysis finds that oil shocks can occasionally contribute significantly to stock markets, and it is also proved that only large shocks matter.     

Dynamic connectedness of oil price shocks and exchange rates

Using a novel method of isolating the oil price shocks, we study how different sources of oil price shocks are connected to exchange rates of major oil-dependent countries using daily data from March 1996 to February 2019. We find that oil price shocks resulting from changes in demand and risk significantly contribute to variation in exchange rates, while supply shocks have virtually no impact. The connectedness of this relationship between oil price shocks and exchange rates has significantly increased after the global financial crisis. We also find that oil price shocks do not explain the variation in exchange rate volatility but we document significant volatility connectedness among exchange rates. Our findings have important implications for policy makers and financial market participants.     

Time and frequency connectedness among oil shocks,electricity and clean energy markets

This paper examines the time and frequency connectedness among electricity, carbon and clean energy markets, and oil price demand and supply shocks. In doing so, we use the spillover method proposed by Diebold and Yilmaz (2012) and its extension in the frequency domain by Baruník and Křehlík (2018). We find increased connectedness during the global financial crisis as well as in the shale oil revolution period. The total connectedness is also higher in the short-run compared to the long-run. Due to their low connectedness, electricity futures can act as a risk diversifier and safe-haven asset against oil shocks. Net pairwise directional connectedness among oil shocks and the clean energy index is higher during the shale oil revolution. These results have important implications for investors with different investment time horizons.     

Linkages between oil price shocks and stock returns revisited

In this paper, we revisit the debate on the relationship between oil price shocks and stock market returns by replicating the quantile-on-quantile (QQ) regression model for the US stock market in Sim and Zhou (2015, Journal of Banking and Finance), and extending it to 15 countries. The classification of these countries as oil importers or oil exporters depends on their net position in crude oil trade. Our results indicate that the main finding by Sim and Zhou (2015) that large negative oil price shocks can bolster stock returns when markets are performing well is only partially supported by the three largest oil importers in our sample – China, Japan and India – during the period 1988:1–2007:12. However, when extending the study to more recent data (period 1988:1–2016:12), we find that China and India experience higher returns when markets perform well and there is a large positive oil price shock. Also, large positive oil price shocks often lead to higher stock market returns when markets perform well for both oil exporting countries – Canada, Russia, Norway – and moderately oil dependent countries – such as Malaysia, Philippines and Thailand. In most cases large negative oil price shocks depress further already poorly performing markets, as in Sim and Zhou (2015). These findings highlight that the relationship between the distributions of oil price shocks and stock market returns is not stable over time in most countries studied. Furthermore, the asymmetric effect between positive and negative oil price shocks observed in the US market by Sim and Zhou (2015) is less evident in most countries for both the baseline and extended periods.     

The effect of global oil price shocks on China's metal markets

This paper investigated the impacts of global oil price shocks on the whole metal market and two typical metal markets: copper and aluminum. We applied the autoregressive conditional jump intensity (ARJI) model, combining with the generalized conditional heteroscedasticity (GRACH) method, to describe the volatility process and jump behavior in the global oil market. We separated the oil price shocks into positive and negative parts, to analyze whether oil price volatility had symmetric impacts on China’s metal markets. We further used the likelihood ratio test to examine the symmetric effect of oil price shocks. In addition, we considered the jump behavior in oil prices as an input factor to investigate how China’s metal markets are affected when jumps occur in the global oil market, in contrast to the existing research paying little attention to this issue. Our results indicate that crude oil price shocks have significant impacts on China's metal markets and the impacts are symmetric. When compared with aluminum, copper is more easily affected by oil price shocks.     

The impact of crude oil prices on financial market indicators: copula approach

Oil price changes have varying impacts on the financial indicators of global markets and economies. This study aims to explore the dependence structure between crude oil prices and stock market indices, as well as the exchange rates in a number of economies categorized with respect to their status as developing/emerging markets, and oil importer/exporter countries. Dependence structures in this study are evaluated in considerable depth using copula models. The broad time period covered allows the investigation of the effect of global financial crisis on the mentioned dependence structure. An additional feature of this study is the inclusion of 1 to 30-day analysis to capture the variation of dependence on duration change. To serve these aims, as well as ARIMA and GARCH models, various copula measures are used to illustrate the level of the association. Additionally, a special focus on the Turkish case is given to illustrate its sensitivity to oil prices. We find that exchange rates and stock indices of most oil exporter countries show higher oil price dependency, whereas, emerging oil importer markets are less vulnerable to price fluctuations. Considerable impacts were found for the global crisis and the continuing recent sharp decrease in oil prices.     

Which oil shocks really matter in equity markets?

This paper examines the relationship between structural oil shocks and US equity markets. The recent oil shock decomposition of Ready (2018) is reconsidered and refined, providing a clearer delineation between shocks to equity market discount rates and aggregate demand, leading to an oil shock specification which attributes substantially more explanatory power to the latter in explaining equity market variation. Providing links with the literature dating back to Kilian and Park (2009), an explicit role is given to precautionary demand shocks using an independent measure constructed from oil futures data, reducing the role of the supply shocks obtained as the final residual in the recursive identification scheme. In an extended sample that allows an analysis of the oil/equity market relationship since the global financial crisis, the modified aggregate demand shocks have approximately twice as much explanatory power for stock return variation than the demand shocks of Ready (2018). The importance of these shocks in driving oil price changes and equity market volatility has only increased since the financial crisis, with the role of supply shocks diminishing. Once these demand effects are accounted for, there is little relationship between precautionary demand shocks and equity returns, in contrast to the existing literature.     

Market inefficiencies associated with pricing oil stocks during shocks

The assumption that market efficiency informs the pricing of oil stocks is critical to understanding the co-movement between stock markets and oil markets. To test this assumption in relation to various types of real oil price changes, this article proposes a two-stage analysis method that starts with a quantile regression to identify oil shocks and develop interval-valued factor pricing models. These interval-based methods, relative to traditional point-based methods, can produce more efficient parameter estimations by providing more information. The results show that oil stocks tend to be overpriced following negative oil price shocks, which partially violates the efficient market hypothesis. Yet oil stocks are efficiently priced in response to moderate changes or positive oil price shocks, such that in most cases, the market remains efficient in pricing oil stocks.     

Dynamic nonlinear impacts of oil price returns and financial uncertainties on credit risks of oil-exporting countries

This paper investigates the dynamic and nonlinear impact of oil price returns on the sovereign credit default swap (CDS) spreads for the oil-rich countries of the Gulf Cooperation Council (GCC) and other important oil-exporting countries, namely Venezuela, Mexico and Russia. We employ the standard quantile regression analysis, the rolling quantile regression, and finally, the Quantile-on-quantile (QQ) approach that allows one to investigate the dependence dynamics of the sovereign CDS spreads under different credit market conditions. The empirical results show that oil price returns significantly and favorably decrease the sovereign credit risk premium of the non-GCC oil-exporting countries under consideration. However, the results also suggest no or little impact on the sovereign credit risk premium of Saudi Arabia, UAE and Norway, which have the most significant sovereign wealth funds in the world. The negative (i.e. favorable) impact of oil price returns on the sovereign CDS spreads, where present, gradually increases with the quantile level and is the highest during the bullish credit market conditions. The results also show that those CDS spreads are more sensitive to the global bond market uncertainty factor than to the global equity market uncertainty factor.     

Relationships between oil price shocks and stock market: An empirical analysis from China

This paper investigates the interactive relationships between oil price shocks and Chinese stock market using multivariate vector auto-regression. Oil price shocks do not show statistically significant impact on the real stock returns of most Chinese stock market indices, except for manufacturing index and some oil companies. Some “important” oil price shocks depress oil company stock prices. Increase in oil volatility may increase the speculations in mining index and petrochemicals index, which raise their stock returns. Both the world oil price shocks and China oil price shocks can explain much more than interest rates for manufacturing index.     

Interpreting the oil risk premium: Do oil price shocks matter?

This paper analyzes the link between the economic fundamentals of the global crude oil markets and the oil futures risk premium. The compensation for risk required by speculators in the oil futures market is modelled as part of the endogenous transmission of oil price shocks. The empirical approach is based on a Structural Vector Autoregressive model of the international market for crude oil. The dynamic response functions show a negative relationship between the risk premium and the real price of oil, triggered by shocks to economic fundamentals. Moreover, the expected returns of a long futures investment are largely explained by a specific shock component related to oil speculators and a shift in the global demand for crude oil.     

Asymmetric volatility spillovers between oil and stock markets: Evidence from China and the United States

The relationship between oil and stock markets is a hot topic, but little research has focused on the time-varying asymmetric volatility spillover in a quantitative manner. In this study, we use a new spillover directional measure and asymmetric spillover measures to investigate the dynamic asymmetric volatility spillover between oil and stock markets during the period of 2007 to 2016. Using the intra-day data of WTI future prices, the S&P 500 index, and the Shanghai stock market composite index, we find that there exists an asymmetric spillover effect between the oil market and stock markets and that bad volatility spillovers dominate good volatility spillovers for most of the sampling period. In addition, participants are more pessimistic about the oil market than they are about the stock market. We further investigate the presence of asymmetric response to volatility shocks using the asymmetric generalized dynamic conditional correlation (AG-DCC) model; the results also show strong evidence of asymmetries in volatility shocks between the oil and stock markets due to bad volatility.     

Oil prices,fundamentals and expectations

This paper empirically investigates the relationship between oil prices, traditional fundamentals and expectations. Informational frictions may force a wedge between oil prices and supply and/or demand shocks, especially during periods of elevated risk aversion and uncertainty. In such a context, expectations can be a key driver of oil price movements and their impact can vary over time. Overall, we find that both traditional oil fundamentals and forward-looking expectations matter for oil prices. Our findings show that the real price of oil responds differently to expectations shocks of business leaders, consumers and aggregate markets. Our TVP-VAR approach provides evidence that business leaders' expectations play an important role in terms of oil price fluctuations and the impact is stronger in periods of elevated global oil demand. In terms of traditional oil market fundamentals, we find that oil prices have been significantly affected by the recent US shale oil boom. Moreover, global oil demand had a positive impact upon oil prices, especially from the mid-2000s. Several alternative model specifications prove the robustness of our analysis.     

Does the source of oil price shocks matter for South African stock returns? A structural VAR approach

In this paper, we investigate the dynamic relationship between different oil price shocks and the South African stock market using a sign restriction structural VAR approach for the period 1973:01 to 2011:07. The results show that for an oil-importing country like South Africa, stock returns only increase with oil prices when global economic activity improves. In response to oil supply shocks and speculative demand shocks, stock returns and the real price of oil move in opposite directions. The analysis of the variance decomposition shows that the oil supply shock contributes more to the variability in real stock prices. The main conclusion is that different oil price shocks affect stock returns differently and policy makers and investors should always consider the source of the shock before implementing a policy and making investment decisions.     

Causal flows between oil and forex markets using high-frequency data: Asymmetries from good and bad volatility

This paper investigates the causal linkages in volatility between crude oil prices and six major bilateral exchange rates against the U.S. dollar in the time-frequency space using high-frequency intraday data. Special attention is paid to the potential asymmetries in the causal effects between oil and forex markets. The wavelet-based Granger causality method proposed by Olayeni (2016) is applied to quantify the causal relations in the time and frequency domains simultaneously. Moreover, the realized semivariance approach of Barndoff-Nielsen et al. (2010) is used to account for possible asymmetries in the transmission of volatility shocks. The empirical results show that the significant causal links between oil prices and exchange rates are mainly concentrated in the long-run and during periods of increased economic and financial uncertainty such as the global financial crisis and the subsequent European sovereign debt crisis. Further, the causal effects from currency markets to the crude oil market are stronger than in the opposite direction, consistent with the forward-looking nature of exchange rates, the role of the U.S. dollar as the key invoicing currency for global oil trading and the expanding financialization of the oil market since the mid-2000s. In addition, significant asymmetries coming from good and bad volatility are found at longer horizons. Specifically, bad volatility seems to dominate good volatility in terms of the importance of transmission of volatility shocks.     

Assessing the impact of US ethanol on fossil fuel markets: A structural VAR approach

Despite the growing importance of biofuels, the effect of biofuels on fossil fuel markets is not fully understood. We develop a joint structural Vector Auto Regression (VAR) model of the global crude oil, US gasoline, and US ethanol markets to examine whether the US ethanol market has had any impact on global oil markets. The structural VAR approach provides a unique method for decomposing price and quantity data into demand and supply shocks, allowing us to estimate the distinct dynamic effects of ethanol demand and supply shocks on the real prices of crude oil and US gasoline. Ethanol demand in the US is driven mainly by government support in the form of tax credits and blending mandates. Shocks to ethanol demand therefore reflect changes in policy more than any other factor. In contrast, ethanol supply shocks are driven by changes in feedstock prices. A principle finding is that a policy-driven ethanol demand expansion causes a statistically significant decline in real crude oil prices, while an ethanol supply expansion does not have a statistically significant impact on real oil prices. This suggests that even though US ethanol market is small, the influence of US biofuels policy on the crude oil market is pervasive. We also show that ethanol demand shocks are more important than ethanol supply shocks in explaining the fluctuation of real prices of crude oil and US gasoline.     

Oil price shocks,competition, and oil & gas stock returns — Global evidence

Extant literature suggests that oil price shocks have a strong impact on the macroeconomy and the stock market. However, relatively less is known about the effect of country-level determinants, competition, and asymmetrical relationship in affecting the oil & gas stock return at the firm-level. Using a comprehensive firm-level monthly data from 70 countries spanning 1983 to 2014, we find: (i) macroeconomic stress negatively impact firm-level returns; (ii) oil price shocks positively impact firm-level returns; (iii) firms located in high oil producing countries are more sensitive to global uncertainty and oil price shocks; (iv) firms located in non-competitive industries are less sensitive to oil price shocks; and (v) firms located in non-competitive industries are less affected by the drop in oil price, as compared to firms that are located in highly competitive industries. Our results remain qualitatively similar using a battery of robustness checks.