Virtual integration of financial markets: a dynamic correlation analysis of the creation of the Latin American Integrated Market

Abstract

This paper investigates the role of virtual integration of financial markets on stock market return co-movements. In May of 2011 the Chilean, Colombian, and Peruvian stock markets virtually integrated their stock exchanges and central securities depositories to form the Latin American Integrated Market (MILA). We utilize the dynamic conditional correlation model propose by Engle (2002) to identify a statistically significant positive correlation between these markets.Moreover, we find strong evidence that the creation of the MILA increased the levels of dynamic correlation between stock returns. A higher correlation was also found during the dot-com bubble and the 2007 financial crises. Our results imply a decline in gains from international diversification by holding portfolios consisting of diverse stocks of these countries.

Equity markets’ clustering and the global financial crisis

“…Colombia and Peru joined the American and Latin American cluster after the GFC. This may be related to the integration of the Colombian, Chilean and Peruvian stock markets and the corresponding securities depositaries amid the Latin American Integrated Market (MILA), which was agreed in 2009 but formally started in May 2011.21 This result coincides withMellado and Escobari (2015) in that each of these markets became more sensitive to the movements of the other two, but also in that Latin American markets exhibit an important degree of integration with the US stock market.All in all, it is rather evident that geographical clustering augmented after the GFC. Tightly interconnected regions became more interconnected, as is the case of Western Europe and America.…”

“…merge or acquisition), but an integration based on technological tools and regulatory standardization. The first phase of this integration process (including Chile, Colombia and Peru) started on September 8, 2009, but it was only until the end of May, 2011 that MILA formally started operations (seeMellado and Escobari (2015)). On December 2014 the entry of Mexico became official.…”

Equity markets' clustering and the global financial crisis

“…Asian markets being more similar to other markets (e.g. the United States) than to China after the GFC has been documented as well (see Glick and Hutchinson (2013) and Escobari (2015) in that each of these markets became more sensitive to the movements of the 20 It has been documented that spillovers from China's stock market volatility have been significant for other Asian economies during 2015 (see Guimaraes-Filho and Hong (2016)). Thus, it is arguable that China has increasingly approximated its regional cluster after the GFC.…”

Identifying bubbles in Latin American equity markets: Phillips-Perron-based tests and linkages

“…The strongest link is between Mexico and Brazil, both the largest economies and the largest equity markets in the region. Figures from January 2013, show that from our sample of countries, Mexico is the second largest in market capitalization ($706,098) with Brazil ($1,257,888) being the first (Mellado and Escobari, 2015). The smallest correlation coefficients are associated with Peru, which represent the smallest equity market in our sample of countries.…”

“…The Integrated Latin American Market (MILA) was designed to capitalize on this resilience with the world's first virtual integration of multiple equity markets for Chile, Colombia and Peru (Mellado and Escobari, 2015). MILA allows traders to have direct access to the other exchanges and removes a host country intermediary from the transaction.…”