CORRELATIONS BETWEEN OIL AND STOCK MARKETS: A WAVELET-BASED APPROACH

Belen Martin-Barragan, Sofia Ramos, Helena Veiga

Research output: Contribution to conferencePaperpeer-review

Abstract

In a global economy shocks occurring in one market can spillover to other markets. This paper investigates the impact of oil shocks and stock markets crashes on correlations between stock and oil markets. We test changes in correlations with non-overlapping confidence intervals based on estimated wavelets correlations that account for the correlations at different scales. This allows us to distinguish contagion from co-movements. Our method, contrary to others existing in the literature does not need adjustment for heteroskedasticity biases on the correlation coefficients. Our results show that oil shocks spread to stock markets affecting the correlation between both markets. During the shock, correlations between oil and stock markets become negative, while in non-shock periods, correlations are around zero or slightly positive. The test confirms that most of the correlations between oil and stock markets are statistically different from those in the shock period. The evidence on the change of correlation between stock markets after an oil shock is weaker, the co-movements are stronger but the test does not reject the equality of correlations, except in some specific cases during the Kuwait war and the OPEC cutback period. Conversely, we only find weak evidence that stock market crashes change the correlation between oil and stock markets. Overall, the evidence shows a decrease on correlations between stock and oil markets in oil shock periods, giving support to include oil as an asset class in asset allocation strategies.
Original languageEnglish
Publication statusPublished - Aug 2013
EventEuropean Economic Association Annual Congress 2013 - Gothenburg, Sweden
Duration: 26 Aug 201330 Aug 2013

Conference

ConferenceEuropean Economic Association Annual Congress 2013
CountrySweden
CityGothenburg
Period26/08/1330/08/13

Keywords

  • wavelets
  • correlation
  • shock contagion

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