Understanding stock-bond return correlation is a key facet in asset mix, asset allocation and in an investor’s portfolio optimisation strategy. For the last couple of decades, several studies have probed this cardinal relationship. While initial literature tries to understand the fundamental pattern of co-movements, later studies aim to model the economic state variables influencing such time-varying volatility behaviour of stock-bond returns. This study provides a systematic literature review in the field of stock and bond return correlation. The review investigates the existing literature in three key dimensions. First, it examines the effect of macro-economic variables on SB return co-movements. Second, it illustrates the effect of financial integration on the asset correlation dynamics. Third, it reviews the existing models that are employed to estimate the dynamic relationship. In addition to the systematic review, I conduct an empirical analysis of stock-bond return co-movements on U.S. capital market. Both the literature and the empirical investigation substantiate my claims on existing research gaps and respective scope for further research. Evidence shows that existing models impose strong restrictions on past stock-bond return variance dynamics and yield inconclusive results. I, therefore, propose an alternative method, i.e. copula function approach, to model stock and bond time-varying co-movements. Since the previous studies largely focus on developed economies, I suggest an empirically investigation of emerging economies as well. This will allow me to examine the effect of financial integration on the dynamic asset return correlation. Apart from this academic contribution, the study provides an illustration of the economic implications which relate to portfolio optimization and minimal-risk hedge ratio.

Without doubt a well-developed financial sector is related to efficient resource allocation and growth, but there is modest consensus on the direction of that link, on the notion of what is meant by "well developed", on which subset of the financial market is crucial and thus which organisational set-up provides optimal returns for both architects and market participants alike. With sluggish growth, torn down market barriers and systemic change in the EU accession countries the direction, magnitude, sustainability, institutional set-up of the finance-growth nexus (and which), becomes one of the core issues of both macroeconomic theory and practice. This paper reviews the economic theory available, provides a well structured overview of 54 empirical studies conducted since 1964, sets the stage for constructing a data base encompassing the major three segments of financial markets (stock, bond and bank credit) and provides the methodological background for combining cross-country production function and time-series approaches in order to answer the following questions: (1) What is the direction of the finance-growth nexus, (2) which segment of the financial sector drives whatever nexus there is, and (3) what are the features of a growth supportive financial architecture. / Series: EI Working Papers / Europainstitut

Made available in DSpace on 2010-04-20T21:00:41Z (GMT). No. of bitstreams: 3 cassiohannavaldujoturma2004.pdf.jpg: 20231 bytes, checksum: 62e51410ac906f6e00f1e12da5316a49 (MD5) cassiohannavaldujoturma2004.pdf: 413423 bytes, checksum: 8213eb03aca7db7895e101c61e2a7f51 (MD5) cassiohannavaldujoturma2004.pdf.txt: 79476 bytes, checksum: 55d018233791503e2867b643e0a8d988 (MD5) Previous issue date: 2007-01-04T00:00:00Z / We examine whether non-return-based measures of stock market uncertainty, like the volatility from equity indexes and detrended stock turnover can be linked to timevariation in the correlation between daily stock and bonds returns. We find a positive relation between the uncertainty measures and the future correlation of stock and bond returns. Furthermore, we find that bond returns tend to be high (low), relative to stock returns, during days when volatility varies substantially (a little) and during days when stock turnover is unexpectedly high (low). Our findings suggest that stock market uncertainty has important fixed income pricing influences, implying a crossmarket approach in the asset allocation process. / Estudamos a possibilidade de que medidas de incerteza no mercado acionário estejam relacionadas com a variação temporal da correlação entre os retornos dos mercados de renda fixa e renda variável. Encontramos evidências de uma relação direta entre as medidas de volatilidade e a correlação futura dos retornos dos mercados estudados. Além disso, percebemos que o retorno do mercado de renda fixa tende a ser maior (menor) em comparação ao do mercado de renda variável quando a volatilidade deste apresenta variações maiores (menores) e em dias em que o volume de operações é inexplicavelmente alto (baixo). Nossos resultados sugerem que incertezas do mercado acionário têm influência no apreçamento do mercado de renda fixa, trazendo implicações de efeitos de cross-market pricing na gestão de recursos.