From Black Wednesday to Brexit: Macroeconomic shocks and correlations of equity returns in France, Germany, Italy, Spain, and the United Kingdom

Article


Gottschalk, S. 2021. From Black Wednesday to Brexit: Macroeconomic shocks and correlations of equity returns in France, Germany, Italy, Spain, and the United Kingdom. International Journal of Finance and Economics. 28 (3), pp. 2843-2873. https://doi.org/10.1002/ijfe.2567
TypeArticle
TitleFrom Black Wednesday to Brexit: Macroeconomic shocks and correlations of equity returns in France, Germany, Italy, Spain, and the United Kingdom
AuthorsGottschalk, S.
Abstract

This paper investigates whether macroeconomic shocks, such as the UK's referendum decision to leave the European Union (“Brexit”), the 2008 Financial Crisis, the 1992 ERM Crisis (“Black Wednesday”), and the 1987 stock market crash (“Black Monday”), had a positive impact on portfolio risk diversification. We estimate weekly dynamic conditional correlations and then optimal sectoral portfolio allocations between 1973 and 2019. Our results show that correlations of equity returns increased as a consequence of economic integration among European countries from the mid-1980s until the late 2000s, and decreased in the United Kingdom after Black Wednesday and the Brexit referendum. We tested the existence of a correlation change-point on June 27, 2016 by applying Wied et al. (2012)'s [Econometric Theory, 28(3), 570–589] correlation structural break test, which we modified to account for dynamic conditional correlations. Application of this test confirms that the referendum date was a break-point in nearly all UK manufacturing industries. The failure of Lehman Brothers and the 1987 stock market crash were also identified as structural breaks in equity correlations. Moreover, our findings suggest that the Brexit vote may constitute a long-term trend reversal of the convergence of equity return correlations in European markets, akin to Black Wednesday, rather than a shock like the 1987 and 2008 financial crises, which merely intensified a historical upward trend in correlations of European equity returns.

KeywordsBrexit; dynamic conditional correlation (DCC) of equity returns; European financial integration; portfolio diversification; structural break in dynamic correlations
LanguageEnglish
PublisherWiley
JournalInternational Journal of Finance and Economics
ISSN1076-9307
Electronic1099-1158
Publication dates
Online19 Mar 2021
PrintJul 2023
Publication process dates
Deposited12 May 2021
Accepted28 Feb 2021
Output statusPublished
Publisher's version
Copyright Statement

© 2021 The Authors. International Journal of Finance & Economics published by John Wiley & Sons Ltd.
This is an open access article under the terms of the Creative Commons Attribution License, which permits use, distribution and reproduction in any medium, provided the original work is properly cited.

Digital Object Identifier (DOI)https://doi.org/10.1002/ijfe.2567
Web of Science identifierWOS:000630426200001
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