Co-movement in U.S. and Chinese Equity Index Returns
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This paper investigates the co-movements and directional causality of stock market returns in the United States and China from January 3, 2000 through December, 30 2011. Co-movement in equity returns during the early years of the sample period, 2000 through 2005, is rather low and equity returns in the two markets seem mostly unrelated. A marked increase in the co-movement of the two markets occurs during the latter portion of the sample period, from 2007 through 2011. Correlation between equity index returns in the two countries become increasingly more positive with time in the sample period. Furthermore, from 2007 to 2011, S&P 500 index returns Granger cause Shanghai Composite Index returns, creating an distinctly observable lead/lag relationship between U.S. and Chinese equity index returns. From the perspective of portfolio optimization, the increased correlation between U.S. and Chinese equity returns may imply that the benefits to international diversification are decreasing. However, the more pronounced lead/lag relationships between the two markets may present opportunities for short-term strategic trading between U.S. and Chinese equity markets.
Abstract
This paper investigates the co-movements and directional causality of stock market returns in the United States and China from January 3, 2000 through December, 30 2011. Co-movement in equity returns during the early years of the sample period, 2000 through 2005, is rather low and equity returns in the two markets seem mostly unrelated. A marked increase in the co-movement of the two markets occurs during the latter portion of the sample period, from 2007 through 2011. Correlation between equity index returns in the two countries become increasingly more positive with time in the sample period. Furthermore, from 2007 to 2011, S&P 500 index returns Granger cause Shanghai Composite Index returns, creating an distinctly observable lead/lag relationship between U.S. and Chinese equity index returns. From the perspective of portfolio optimization, the increased correlation between U.S. and Chinese equity returns may imply that the benefits to international diversification are decreasing. However, the more pronounced lead/lag relationships between the two markets may present opportunities for short-term strategic trading between U.S. and Chinese equity markets.
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