Essays on time series and causality analysis in financial markets

Abstract

Financial market and its various components are currently in turmoil. Many large corporations are devising new ways to overcome the current market instability. Consequently, any study fostering the understanding of financial markets and the dependencies of various market components would greatly benefit both the practitioners and academicians. To understand different parts of the financial market, this dissertation employs time series methods to model causality and structure and degree of dependence. The relationship of housing market prices for nine U.S. census divisions is studied in the first essay. The results show that housing market is very interrelated. The New England and West North Central census divisions strongly lead house prices of the rest of the country. Further evidence suggests that house prices of most census divisions are mainly influenced by house price changes of other regions. The interdependence of oil prices and stock market indices across countries is examined in the second essay. The general dependence structure and degree is estimated using copula functions. The findings show weak dependence between stock market indices and oil prices for most countries except for the large oil producing nations which show high dependence. The dependence structure for most oil consuming (producing) countries is asymmetric implying that stock market index and oil price returns tend to move together more during the market downturn (upturn) than a market boom (downturn). In the third essay, the relationship among stock returns of ten U.S. sectors is studied. Copula models are used to explore the non-linear, general association among the series. The evidence shows that sectors are strongly related to each other. Energy sector is relatively weakly connected with the other sectors. The strongest dependence is between the Industrials and Consumer Discretionary sectors. The high dependence suggests small (if any) gains from industry diversification in U.S. In conclusion, the correct formulation of relationships among variables of interest is crucial. This is one of the fundamental issues in portfolio analysis. Hence, a thorough examination of time series models that are used to understand interactions of financial markets can be helpful for devising more accurate investment strategies.