Smooth transition patterns in the realized stock–bond correlation

Abstract

This paper explores the time variation in the stock-bond correlation using high-frequency data. Gradual transitions between regimes of negative and positive stock-bond correlation are well accommodated by the smooth transition regression (STR) model. We find that the regimes are systematically related to movements in financial and to a minor extent macroeconomic transition variables. In particular, the most informative transition variables are the short rate, the yield spread, and the VIX volatility index. Importantly, both in-sample and out-of-sample evaluation criteria show that multiple transition variable STR specifications considerably outperform single transition variable STR models. Our results are robust to different forecast horizons.

Spillover impact of the US unconventional monetary policy and uncertainties on stock-bond correlations

“…The negatively affects stock-bond market co-movements for most countries. This evidence is consistent with previous literature by Connolly et al (2007), Aslanidis and Christiansen (2012), Chiang et al (2015), and Dimic et al (2016). Thus, the causes the flight-to-quality phenomenon, which implies a negative impact on the co-movement between the US stock market and advanced countries' bond markets.…”

“…Also, Yang, Zhou, and Wang (2009) emphasised that stock-bond correlations within the US and UK are more likely to increase during the period of higher short rates when compared to a period of higher inflations. Aslanidis and Christiansen (2012) applied smooth transition regression and found that the economic state is significantly less important than the short rate and yield spread in shifting stock-bond correlations in the US. This indicates that, over periods of higher short rate and yield spread, it is more likely for the stock-bond correlation to be positive.…”

“…However, the inflation rate stance is not associated with stock-bond correlations. Ohmi, and Okimoto (2016) argued that adding the trend effect and excluding the inflation rate from the model proposed by Aslanidis and Christiansen (2012) would alter the influence of macro-finance factors on stock-bond correlation regimes not only in the US, but also in Germany and the UK. Asgharian et al (2016) provide evidence that the long-run stock-bond correlation is significantly and positively driven by the general state of the economy.…”

“…Another segment of literature has given attention to uncertainty factors' effects on stock-bond market co-movements at the country level. Many studies found that stock market uncertainty is a particularly essential element for driving the direction of stock-bond correlations (Connolly, Stivers, and Sun, 2007;Aslanidis and Christiansen, 2012;Chiang, Li, and Yang, 2015). Several other researchers found that stock-bond correlations are negatively related to domestic or US stock market uncertainty, as gauged by Exchange Volatility Index (VIX), arguing that a higher period of stock market uncertainty makes more risk-averse investors switch funds to safe haven assets, such as bonds (Connolly et al, 2007).…”

“…d 'Addona and Kind, 2006;Andersson et al, 2008), regime switching models (e.g. Aslanidis and Christiansen, 2012;Chiang et al, 2015;Asgharian et al, 2016), and the wavelet estimation technique (Dimic et al, 2016). Although these methods provide important information, they have some drawbacks.…”