Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/202977 
Year of Publication: 
2018
Series/Report no.: 
Working Paper No. 1803
Publisher: 
Koç University-TÜSİAD Economic Research Forum (ERF), Istanbul
Abstract: 
We apply the Diebold and Yilmaz (2014) methodology to daily stock prices of the largest 40 U.S. financial institutions to construct a volatility connectedness index. We then estimate the contemporaneous return sensitivity of every non-financial U.S. company to this index. We find that there is a large statistically significant difference between the returns of firms with positive and negative exposures to financial connectedness. The four-factor alpha of a strategy that goes long in the bottom decile and short in the top decile of stocks sorted on their connectedness betas is roughly 15% per annum. Bivariate portfolio tests reveal that abnormal returns are robust to market beta, size, book-to-market ratio, momentum, debt, illiquidity, and idiosyncratic volatility. Abnormal returns are asymmetric; they are primarily driven by firms whose returns covary negatively with the index. These firms tend to be young and small, with poor past performance and low credit quality.
Subjects: 
Cross-section of returns
Anomalies
Financial connectedness
Vector autoregressions
JEL: 
G12
G21
C32
Document Type: 
Working Paper

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