Does a Contagion Effect Exist Between Equity
Markets and Hedge Funds in Periods of Extreme
Stress in Financial Markets?

Abstract

Previous researchers have argued that there is no empirical evidence in support of contagion between equity markets and hedge funds. Unlike previous researchers, the authors of this article assess whether extreme increases in volatility transmit from equities to hedge funds. Using kernel density estimation, they show that the volatility spillover effect between equities and hedge funds is significant at the 99% level of confidence for several hedge-fund strategies. Conducting tests for correlation asymmetry and applying Vector Autoregressive (VAR) models, they find evidence confirming that a contagion effect exists between equity markets and several hedge-fund strategies. The impact of financial crises on hedge funds varies substantially across hedge-fund styles.

TOPICS: Real assets/alternative investments/private equity, exchanges/markets/clearinghouses, financial crises and financial market history, statistical methods