Dynamic linkages and volatility transmission from global equity markets to frontier equity markets of the Middle East and Africa

Abstract

Frontier markets, or pre-emerging markets, represent a diverse group of equity markets of small and developing nations that typically exhibit a higher macroeconomic risk profile and lower levels of liquidity and market capitalization in comparison to the equity markets of emerging or developed economies. These differences in market characteristics create diversification opportunities for investment and portfolio management purposes. The objective of this article is to model the dynamics of volatility transmission from the mature global stock markets of France, Germany, the United Kingdom, and the United States to the frontier markets of Africa and the Middle East. VAR and GARCH models of returns are estimated to determine evidence of interdependence and volatility spillover from global mature stock markets to the frontier stock markets of Africa and the Middle East. The evidence reported is mixed, suggesting a varying level of volatility spillover and the leverage effect. This varying response to global stock market shocks reveals that frontier nation stock markets are not yet fully integrated with the global economy.