International swap market contagion and volatility

Asm Sohel Azad, Jonathan Andrew Batten, Victor K F Fang, Jayasinghe Wickramanayake

    Research output: Contribution to journalArticleResearchpeer-review

    Abstract

    Using interest rate swap yield and spread data the linkages and volatility transmission between three major international swapmarkets: Japan, UK and the US are investigated. The volatilities of the swap yield and spreads are decomposed into long and short term components enabling an assessment to be made of the strength and direction of the volatility transmission process between the three markets. Strength is measured through the dynamic correlation between the long- and short-term components, while direction is measured through the causality of these components. The contagion effects of key economic events are also considered. The paper presents three key findings. First, cross-market correlations of both short- and long-term components between Japan and the US, and Japan and the UK are very low, which is consistent with weak integration. This would motivate international investors to take advantage of the differential between the lower long-term yields of Japanese Government bonds and the higher long-term yields of US bonds. On the other hand the cross-market correlations between the UK and the US are high, which is consistent with strong integration. Second, contagion exists in both the long- and short-term volatility components of the swap spread, but not on the swap rates. Third, in terms of the direction of transmission, the volatility spillovers (both components) are mostly multidirectional between the markets.
    Original languageEnglish
    Pages (from-to)355 - 371
    Number of pages17
    JournalEconomic Modelling
    Volume47
    DOIs
    Publication statusPublished - 2015

    Cite this

    Azad, Asm Sohel ; Batten, Jonathan Andrew ; Fang, Victor K F ; Wickramanayake, Jayasinghe. / International swap market contagion and volatility. In: Economic Modelling. 2015 ; Vol. 47. pp. 355 - 371.
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    abstract = "Using interest rate swap yield and spread data the linkages and volatility transmission between three major international swapmarkets: Japan, UK and the US are investigated. The volatilities of the swap yield and spreads are decomposed into long and short term components enabling an assessment to be made of the strength and direction of the volatility transmission process between the three markets. Strength is measured through the dynamic correlation between the long- and short-term components, while direction is measured through the causality of these components. The contagion effects of key economic events are also considered. The paper presents three key findings. First, cross-market correlations of both short- and long-term components between Japan and the US, and Japan and the UK are very low, which is consistent with weak integration. This would motivate international investors to take advantage of the differential between the lower long-term yields of Japanese Government bonds and the higher long-term yields of US bonds. On the other hand the cross-market correlations between the UK and the US are high, which is consistent with strong integration. Second, contagion exists in both the long- and short-term volatility components of the swap spread, but not on the swap rates. Third, in terms of the direction of transmission, the volatility spillovers (both components) are mostly multidirectional between the markets.",
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    International swap market contagion and volatility. / Azad, Asm Sohel; Batten, Jonathan Andrew; Fang, Victor K F; Wickramanayake, Jayasinghe.

    In: Economic Modelling, Vol. 47, 2015, p. 355 - 371.

    Research output: Contribution to journalArticleResearchpeer-review

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