Cheol S. Eun

International Transmission of Stock Market Movements

This paper investigates the international transmission mechanism of stock market movements by estimating a nine-market vector autoregression (VAR) system. Using simulated responses of the estimated VAR system, we (i) locate all the main channels of interactions among national stock markets, and (ii) trace out the dynamic responses of one market to innovations in another. Generally speaking, a substantial amount of multi-lateral interaction is detected among national stock markets. Innovations in the U.S. are rapidly transmitted to other markets in a clearly recognizable fashion, whereas no single foreign market can significantly explain the U.S. market movements. Also, the dynamic response pattern is found to be generally consistent with the notion of informationally efficient international stock markets.

International Listings and Stock Returns: Some Empirical Evidence

Segmentation of capital markets produces incentives for firms to adopt countermeasures, one of which is dually listing their stocks on foreign capital markets. In this paper, the behavior of stock returns surrounding such international listings is examined for a sample of firms. Assuming that the capital markets are either completely or “mildly†segmented beforehand, it is hypothesized that the international listing of a security should, in general, accompany a reduction in its expected return. The sample reveals evidence consistent with this hypothesis.

Cross‐Border Listings and Price Discovery: Evidence from U.S.‐Listed Canadian Stocks

We examine the contribution of cross-listings to price discovery for a sample of Canadian stocks listed on both the Toronto Stock Exchange (TSE) and a U.S. exchange. We find that prices on the TSE and U.S. exchange are cointegrated and mutually adjusting. The U.S. share of price discovery ranges from 0.2 percent to 98.2 percent, with an average of 38.1 percent. The U.S. share is directly related to the U.S. share of trading and to the ratio of proportions of informative trades on the U.S. exchange and the TSE, and inversely related to the ratio of bid-ask spreads.

International diversification through closed-end country funds

Abstract The primary objectives of this paper are to assess the potential of closed-end country funds (CECFs) as vehicles for achieving international diversification at ‘home’ and to examine the effect of the closed-end status of these funds on their investment characteristics. The main findings are: First, CECFs exhibit significant exposure to the U.S. market factor and act more like U.S. securities than do their underlying assets. Second, despite these characteristics, CECFs retain significant exposure to their local (home) market factors and provide U.S. investors with substantial diversification benefits. Emerging market funds such as Brazil, Mexico, and Taiwan receive large weights in optimal international portfolios comprised of CECFs, implying that these funds can play a unique role in spanning the opportunity set for U.S. investors. Third, performance evaluations indicate that our sample CECFs generally did not offer significant ‘overseas alphas’. Fourth, fund value and net asset value are found to be co-integrated for the majority of CECFs from North America and Europe, but not for those representing the Asian emerging markets.

International Diversification with Large- and Small-Cap Stocks

To the extent that investors diversify internationally, large-cap stocks receive the dominant share of fund allocation. Increasingly, however, returns to large-cap stocks or stock market indices tend to comove, mitigating the benefits from international diversification. In contrast, stocks of locally oriented, small companies do not exhibit the same tendency. In this paper, we assess the potential of small-cap stocks as a vehicle for international portfolio diversification during the period 1980–1999. We show that the extra gains from the augmented diversification with small-cap funds are statistically significant for both in-sample and out-of-sample periods and remain robust to the consideration of market frictions.

International equity investment with selective hedging strategies

Abstract In this study, we examine the construction of ex ante internationally diversified stock portfolios under both parameter uncertainty and exchange rate uncertainty. Both passive and active strategies are explored for handling exchange rate uncertainty. One passive strategy is to always use forward contracts to hedge exchange rate risk. A second is to use protective puts to hedge the exposure. Three conditional hedging strategies based on the random walk model are also explored. The random walk strategy exhibited superior performance in comparison with the unhedged and passive hedging strategies under all parameter estimation techniques. These results imply that the random walk model provides a good estimate of next periods spot rate of exchange.

Forecasting exchange rates: Do banks know better?

Abstract We first evaluate the performance of major commercial banks in forecasting future spot exchange rates, using the random-walk model as the benchmark. We then investigate the sources of forecast errors, and the forecasting tendencies of banks. Our analysis is based on the forecasts made for the US dollar exchange rates of the British pound (BP), German mark (DM), Swiss franc (SF), and Japanese yen (JY), over 3-, 6-, 9-, and 12-month forecast horizons. Key findings include: first, a majority of banks shows some evidence of outperforming the random-walk model for the three currencies other than the JY. Second, the imperfect correlation between predicted and actual exchange rate changes is the dominant source of prediction errors of banks. Third, the home-country bank generally forecasts the countrys currency rate more accurately than the other banks, suggesting a degree of information asymmetry. Fourth, the forecasts of a majority of banks exhibit a bandwagon type effect. That is, most banks are momentum forecasters, tending to extrapolate the recent currency changes. Interestingly, a “contrarian” bank is found to outperform the other banks.

Forecasting the correlation structure of share prices: A test of new models

Abstract In this paper, we test several new models of forecasting the correlation structure of share prices and compare their performances with those of the traditional models. Our empirical results show that new multi-index models associated with the arbitrage pricing theory (APT), such as the Size-Based Index Model and the Macro Factor Model, fail to outperform the traditional Single Index Model. Each of the three ‘disaggregate’ mean models considered, i.e., the Industry Mean, Size Mean and Size-Industry Mean Models, outperforms both the Overall Mean Model and the Full Historical Model. The Size-Industry Mean Model significantly outperforms all the other models considered, implying that it is important to consider both the firm size and industry effects in forecasting the correlation structure of share prices.

International price level linkages: Evidence from the post-Bretton Woods era

Abstract In this paper, we investigate the dynamic interdependence structure of national price levels of the Group of Seven (G-7) countries during the post-Bretton Woods era, i.e., 1973–1996. We find that a significant proportion of each countrys domestic inflation rate variance is attributable to foreign inflation shocks, especially in the long run. Also, all foreign countries are found to import U.S. inflation during the sample period as they used to under the Bretton Woods system. The empirical findings imply that flexible exchange rates do not insulate the domestic price levels from foreign inflation shocks, which invalidates a key argument for the flexible exchange rate regime.

Price Interactions in a Sequential Global Market: Evidence from the Cross‐listed Stocks

In this paper, we investigate the pattern of dynamic interactions among the prices of those stocks that are cross-listed on the three major stock markets of the world, i.e. New York, London and Tokyo. Major findings are: first, regardless of the nationality of stocks, innovations in the ‘home’ market returns are always fed into the returns in the ‘overseas’ markets, with the former causing the latter in the Granger sense. However, innovations in the New York market returns of foreign stocks are fed back into their respective home markets, contributing to the price discovery there. Second, the ‘succeeding’ overseas market, which operates immediately after the home market, plays a dual-role: it conducts the home market innovations to the next-opening overseas market, as well as adds its own innovations. Third, the exchange rate changes substantially influence the overseas market returns, but not the home market returns. The exchange rates appear to play a role in the transmission mechanism mainly via the inter-market price parity.