Regime shifts and volatility in BRIICKS stock markets: an asset allocation perspective

摘要

Purpose - The purpose of this paper is to examine the regime shifts and stock market volatility in the stock market returns of seven emerging economies popularly called as "BRIICKS" which stands for Brazil, Russia, India, Indonesia, China, South Korea and South Africa, over the period from February 1996 to January 2012 by applying Markov regime switching (MS) in mean-variance model. Design/methodology/approach - The authors apply MS model developed by Hamilton (1989) using its mean-variance switching framework on the monthly returns data of BRIICKS stock markets. Further, the estimated probabilities along with variances have been used to calculate the time-varying volatility. The authors also examine market synchronization and portfolio diversification possibilities in sample markets by calculating the Logit transformation based cross-market correlations and Sharpe ratios. Findings - The applied model finds two regimes in each of these markets. The estimated results also helped in formulating the asset allocation strategies based on market synchronization and Sharpe ratio. The results suggest that BRIICKS is not a homogeneous asset class and each market should be independently evaluated in terms of its regime-switching behavior, volatility persistence and level of synchronization with other emerging markets. The study finally concludes that Russia, India and China as the best assets to invest within this emerging market basket which can be pooled with a mature market portfolio to achieve further benefits of risk diversification. Research limitations/implications - The study does not provide macroeconomic and financial explanations of the observed differences in dynamics among sample emerging stock markets. The study does not examine these markets under multivariate framework. Practical implications - The results highlight the role of regime shifts and stock market volatility in the asset allocation and risk management. This study has important implications for international asset allocation and stock market regulation by way of identifying and recognizing the differences on regimes and on the dynamics of the swings which can be very useful in the field of portfolio and public financial management. Originality/value - The paper is novel in employing tests of MS under mean-variance framework to examine the regime shifts and volatility switching behavior in seven promising BRIICKS stock market. Further, using MS model, the authors analyze the duration (persistence) of each identified regime across sample markets. The empirical results of MS model have been used for making portfolio allocation strategies and also examine the synchronization across markets. All these aspects of stock market regime have been largely ignored by the existing studies in emerging market context particularly the BRIICKS markets.