Financial Integration: A New Methodology and An Illustration

Author/Editor:

Andrew K. Rose ; Robert P Flood

Publication Date:

June 1, 2004

Electronic Access:

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Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary:

This paper develops a simple methodology to test for asset integration, and applies it within and between American stock markets. Our technique relies on estimating and comparing expected risk-free rates across assets. Expected risk-free rates are allowed to vary freely over time, constrained only by the fact that they must be equal across (risk-adjusted) assets in well integrated markets. Assets are allowed to have standard risk characteristics, and are constrained by a factor model of covariances over short time periods. We find that implied expected risk-free rates vary dramatically over time, unlike short interest rates. Further, internal integration in the S&P 500 market is never rejected and is generally not rejected in the NASDAQ. Integration between the NASDAQ and the S&P, however, is always rejected dramatically.

Series:

Working Paper No. 2004/110

Subject:

Asset prices Econometric analysis Factor models Financial institutions Financial markets Prices Stock markets Stocks Time series analysis

English

Publication Date:

June 1, 2004

ISBN/ISSN:

9781451853377/1018-5941

Stock No:

WPIEA1102004

Pages:

20

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