Francesca Carrieri

Characterizing World Market Integration through Time

International asset pricing models suggest that barriers to portfolio flows and availability of market substitutes affect the degree and time variation of world market integration. We use GARCH-in-mean methodology to assess the evolution in market integration for eight emerging markets over the period 1977–2000. Our results suggest that while local risk is still a relevant factor in explaining time variation of emerging market returns, none of the countries appear to be completely segmented. We find that there are substantial crossmarket differences in the degree of integration. The evolution toward more integrated financial markets is apparent although at times we do observe reversals. In addition, we provide clear evidence on the impropriety of directly using correlations of market-wide index returns as a measure of market integration. Finally, financial market development and financial liberalization policies play important roles in integrating emerging markets.

Do Implicit Barriers Matter for Globalization

Market liberalization may not result in full market integration if implicit barriers are important. We test this proposition for investable and non-investable segments of twenty-two emerging markets (EMs). We also measure the degree of integration for six major developed markets (DMs) as a meaningful benchmark. We find that while the DMs are close to fully integrated, both EM segments are not effectively integrated with the global economy. We quantify the importance of implicit barriers and show that better institutions, stronger corporate governance, and more transparent markets in EMs would jointly contribute to a higher degree of integration by about 20% to 30%. The Author 2013. Published by Oxford University Press on behalf of The Society for Financial Studies. All rights reserved. For Permissions, please e-mail: journals.permissions@oup.com., Oxford University Press.

The Effects of Liberalisation on Market and Currency Risk in the European Union

This paper investigates the effects of liberalization on the pricing of market and currency risk for a number of financial markets in the European Union (EU). An International Asset Pricing Model with a multivariate GARCH-in-Mean specification and time-varying prices of risk is used for the four markets with the largest market capitalization in the EU. Only one price of market risk exists and international investors are rewarded for their exposure to currency risk. The evidence shows that all prices of risk are time-varying and have been decreasing during the process of liberalization. There is also evidence that financial markets react to periods of uncertainty in the process toward the completion of liberalization. In addition, the operation of the European Monetary System has generated lower covariances. As a consequence, total risk premia have declined in the last decade.

The Dynamics of Geographic versus Sectoral Diversification: Is There a Link to the Real Economy?

We study the dynamics of gains from sectoral versus geographic diversification and relate economic sources to changes in those gains. We estimate conditional correlations between returns on the U.S. equity market and 16 equity markets and 10 local industries from other OECD countries and find that the average correlation across countries has increased in relation to that across industries. We also show that this process is accompanied by increased alignment in the industrial structures across countries and an increase in the average conditional correlation of aggregate production growth across countries relative to that of disaggregated production growth, especially among developed economies. Thus, the increased benefits of industry-level investing across developed markets are reflected in the real side of the global economy. However, country-level investing should remain the predominant asset allocation approach in emerging markets.

Global Market Integration Reversals and Funding Liquidity

We show that constraints on using leverage for foreign positions can act as an international investment barrier. Guided by an international CAPM with leverage constraints, we use observed stock prices to measure the variation in the magnitude and the implicit cost of such cross-border funding barriers. Our measure helps explain the dynamics of global market integration and, in particular, its reversals documented in the literature but not explained by other international investment barriers. We confirm our results using alternative financial integration measures, international capital flows, and institutional portfolio holdings.This paper shows the role of the funding liquidity in global financial integration reversals. First, we construct a segmentation indicator based on funding liquidity differences across countries as measured by the performance of local betting-againstbeta strategies. Second, we find that funding liquidity shocks help explain recent integration reversals in the absence of any new explicit foreign investment barriers. These findings are consistent with tighter limits to arbitrage and increased home bias during funding distress periods. Our empirical analysis is guided by a margin-CAPM model extended to an international setting.

Reversals in Global Market Integration and Funding Liquidity

This paper looks at the reversals in global financial integration through the funding liquidity lens. First, we construct a segmentation indicator based on differences in funding liquidity across countries as measured by the performance of betting-against-beta strategies. Second, we find that funding liquidity shocks help explain recent reversals in integration in the absence of explicit foreign investment barriers. These findings are consistent with tighter limits to arbitrage and increased home bias during funding distress periods. Our empirical analysis is guided by a margin-CAPM model generalized to an international setting.

Pricing Together Developed and Emerging Markets with Multiple Risk Factors

In a large sample of developed and emerging markets, we show in a conditional setting that globally traded assets such as currencies and international bonds can proxy for global state variables. We find that, differently from market risk, intertemporal risk matters particularly at times when global markets are not in normal economic conditions. Relying on time-variation for prices of risk helps us capture the hedging component, especially the negative one, stemming from proxies like the yen and global sovereign bonds. Our results show that global uncertainty measured by realized world volatility is an important channel for intertemporal risk.