Co-Integration of Stock Markets in Europe

Topics: Stock market, Null hypothesis, Time series analysis Pages: 7 (2475 words) Published: August 22, 2013
Co-integration of stock markets in Europe

In an age of rising globalization, the show of activities in intercontinental economic markets is an imperative issue for economic policy, especially in periods where markets are highly volatile. The determination of diversification strategies by an international investor also depends crucially on the nature and magnitude of the relationships existing between different stock markets. Thus it becomes important for international investors to understand the interrelations among the various markets to diversify risk and to derive high return. We can use co-integration to find out relationship between different stock markets of different countries.

Co integration is a statistical property of time series variable. Two or more time series are co integrated if they share a common stochastic drift. If two or more series are individually integrated but some linear combination of them has a lower order of integration, then the series are said to be co integrated. Co-integration is a two step process: first any long run equilibrium relationships between exchange rates are established, and then a dynamic correlation model of exchange rate returns is estimated. This error correction model (ECM), so called because short term deviations from equilibrium are corrected, reveals the Granger causalities that must be present in a co integrated system. The fundamental aim of co-integration analysis is to detect any common stochastic trends in the price data, and to use these common trends for a dynamic analysis of correlation returns. Thus co-integration analysis is an extension of the simple correlation based analysis. Whereas correlation is based only on return data, co-integration analysis is based on the raw price, exchange rate or yield data as well as the return data. The study of co integration of stock markets is important because it is a direct consequence of globalization and it has important implications for investors. The combination of introduction of IT and globalization has significantly encouraged capital flows across national boundaries contributing to integration and co-integration of international stock markets.

Our aim is to know whether there is co integration among stock exchange markets of major EU countries. Now a days stock market all over the world have become increasingly integrated and co-movement among major financial markets have been rising. Stock markets all over the world are changing frequently. European stocks markets are also changing. There are many European countries. They have their own stock markets. Here we want to find if there is any co integration among the major Europeans countries. Most of the European stock markets are important because the markets are full of opportunities. The main reason inducing us to focus on these countries is their joint membership in European union inferring great financial integration among them. Most of the European countries have the same economical structure.

We will find out if there is any co-integration between the stock markets of We shall use the monthly data of stock exchange for the period of The methodology we will use.

Literature Review

A literature review is not an annotated bibliography in which you summarize briefly each article that you have reviewed. While a summary of what you have read is contained within the literature review, it goes well beyond merely summarizing professional literature. It focuses on a specific topic of interest to you and includes a critical analysis of the relationship among different works, and relating this research to your work.

The Literature review develops a theoretical background for the study through a review of relevant theories. It means reviewing other peoples work on the same topic or similar topic.

Subramanian (2008) examines co-integration and casual relations among five major stock exchanges in East Asia....
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