IMF Working Papers

Determinants of Financial Market Spillovers: The Role of Portfolio Diversification, Trade, Home Bias, and Concentration

Author/Editor:

Yoko Shinagawa

Publication Date:

October 17, 2014

Electronic Access:

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Summary:

This paper defines financial market spillovers as the comovement between two countries’ financial markets and analyzes financial market spillovers over the period 2001-12 through four channels: bilateral portfolio investment, bilateral trade, home bias, and country concentration. The paper finds that, if a country has a large amount of bilateral portfolio exposure in another country, these two countries’ comovement of bond yields are large. Also, countries’ geographical preferences impact financial spillovers; if a country has a stronger home bias, the country could have less spillovers from foreign financial markets. A policy implication from this result is that, if countries become less home-biased and have a greater amount of portfolio investment assets, they should strengthen prudential regulations to mitigate against rising risks of financial spillovers (or risk greater volatility owing to comovement with foreign markets).

Series:

Working Paper No. 2014/187

Subject:

Balance of payments Financial institutions Financial markets Financial sector policy and analysis Portfolio investment Securities Spillovers Stock markets Stocks