U.S.

Financial Sector Volatility: A Bayesian Model

Averaging Perspective

Peter Gernát1 Zuzana Košt’álová1 Štefan Lyócsa2

1 Universityof Economics, Bratislava, Slovakia

peter.gernat@euba.sk
zuzana.kostalova@euba.sk
2 University
of Presov, Presov, Slovakia
Masaryk University, Brno, Czech Republic

Infinity Conference, 9-11 June 2019

Gernát, Košt’álová, Lyócsa Infinity 2019 1 / 19

Motivation

Importance of sound and well-functioning financial institutions for

financial stability and real economy (Levine & Zervos, 1998; Beck &
Levine, 2004; Jokipii & Monnin, 2013)
Stock price volatility can send signals of rising uncertainty in the
financial sector
Stock price volatility as a leading indicator of financial instability or
distress in the financial sector (e.g., Bush et al., 2015; Moshirian &
Wu, 2009, 2012; Grimaldi, 2010; Huang et al., 2014; Danielsson et
al., 2018) and included in the financial stress index (e.g. Illing & Liu,
2003; Hakkio et al., 2009; Misina & Tkacz, 2009; Cardarelli et al.,
2011; Vašı́ček et al., 2017)
Literature on identifying indicators of volatility of financial institutions
is limited

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Goal

Our goal is to study the drivers of volatility and semi-volatility of stock

prices of the firms in the U.S. financial sector by employing Bayesian
model averaging.

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Data

Quarterly data for the U.S. covering a period 1990 - 2017

Volatility used as dependent variable
Volatility drivers used as explanatory variables

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Volatility measures

Using daily data of the U.S. S&P financial sector index to calculate
quarterly realized volatility measures and realized semi-volatility
measures (positive and negative semi-variances)
Nt
X
2
RVt = ln Ri,t (1)
i=1

Nt
X
RVt+ = ln (Ri,t ⇥ I (Ri,t 0))2 (2)
i=1

Nt
X
RVt = ln (Ri,t ⇥ I (Ri,t  0))2 (3)
i=1

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Volatility drivers

28 potential volatility drivers covering 6 di↵erent sectors:

Financial sector
Monetary sector
Real sector
Trade sector
Fiscal sector
Market data

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Potential volatility drivers - Financial sector

Domestic credit to private sector to GDP (Demirguc-Kunt &

Detragiache, 1998; Kaminsky & Reinhart, 1999; Borio & Lowe, 2002;
Alessi & Detken, 2009; Babecký et al., 2014; Geršl & Jašová, 2018)
Gross liabilities of personal sector as % of GDP (Babecký et al.,
2014; Reinhart & Rogo↵, 2011)
Global domestic credit to private sector to GDP (Alessi &
Detken, 2009, 2011, 2018; Babecký et al., 2014; Alessi et al., 2015)
Credit growth (Kaminsky & Reinhart, 1999; Borio & Lowe, 2002;
Borio & Drehmann, 2009; Reinhart & Rogo↵, 2011; Babecký et al.,
2014; Drehmann & Juselius, 2014; Alessi et al., 2015; Sohn & Park,
2016; Geršl & Jašová, 2018)
Credit-to-GDP gap (Hanschel & Monnin, 2005; Sohn & Park, 2016)

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Potential volatility drivers - Monetary sector

Consumer price index (Demirguc-Kunt & Detragiache, 1998, 2005;

Hardy & Pazarbasioglu, 1999; Moshirian & Wu, 2009; Barrell et al.,
2010; Slingenberg & De Haan, 2011; Frankel & Saravelos, 2012;
Babecký et al., 2014; Alessi et al., 2015)
M1 (Kaminsky & Reinhart, 1999; Slingenberg & De Haan, 2011;
Christiansen et al., 2012; Babecký et al., 2014)
M3 (Reinhart & Rogo↵, 2011; Slingenberg & De Haan, 2011;
Babecký et al., 2014; Alessi et al., 2015)
3-month money market interest rate (Babecký et al., 2014; Alessi
et al., 2015)

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Potential volatility drivers - Real sector

Gross fixed capital formation (Babecký et al., 2014)

Private final consumption expenditure (Hardy & Pazarbasioglu,
1999; Babecký et al., 2014)
House price index (Alessi & Detken, 2009, 2018; Barrell et al.,
2010; Reinhart & Rogo↵, 2008; Borio & Drehmann, 2009; Babecký et
al., 2014; Alessi et al., 2015)
Index of consumer sentiment (Gupta et al., 2014)
Industrial production index (Babecký et al., 2014)
Net national savings as % of GNI (Slingenberg & De Haan, 2011;
Frankel & Saravelos, 2012; Babecký et al., 2014; Aikman et al., 2017)
Global GDP (Frankel & Rose, 1996; Lo Duca & Peltonen, 2013;
Babecký et al., 2014)
Output gap (Hanschel & Monnin, 2005; Csortos & Szalai, 2014;
Sohn & Park, 2016)
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Potential volatility drivers - Trade sector

Current account as % of GDP (Eichengreen & Rose, 1998;

Eichengreen & Arteta, 2000; Bussiere & Fratzscher, 2006;
Slingenberg & De Haan, 2011; Frankel & Saravelos, 2012; Babecký et
al., 2014; Alessi et al., 2015)
Nominal e↵ective exchange rate (Demirguc-Kunt & Detragiache,
1998; Eichengreen & Rose, 1998; Cashin & Duttagupta, 2008;
Reinhart & Rogo↵, 2010; Cardarelli et al., 2011; Babecký et al., 2014)
Terms of trade index (Caprio & Klingebiel, 1996; Eichengreen &
Rose, 1998; Kaminsky & Reinhart, 1999; Demirguc-Kunt &
Detragiache, 1999; Bussiere & Fratzscher, 2006; Cashin &
Duttagupta, 2008; Babecký et al., 2014)
Trade of GDP (Frankel & Saravelos, 2011; Rose & Spiegel, 2012;
Babecký et al, 2014)
Trade balance (Kaminsky & Reinhart, 1999; Goldstein et al., 2000;
Slingenberg & De Haan, 2011; Babecký et al., 2014)
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Potential volatility drivers - Fiscal sector

Government consumption (Babecký et al., 2014)

Government debt to GDP (Demirguc-Kunt & Detragiache, 1998;
Eichengreen & Rose, 1998; Eichengreen & Arteta, 2000; Babecký et
al., 2014)
Total tax burden to GDP (Kaminsky & Reinhart, 2004; Babecký et
al., 2014)

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Potential volatility drivers - Market data

Term spread (Cardarelli et al., 2011; Babecký et al., 2014; Sohn &
Park, 2016)
Default yield spread (Illing & Liu, 2003; Bordo et al., 2001; Hakkio
& Keeton, 2009; Hollo et al., 2012; Sohn & Park, 2016)
Dividend-price ratio (Sohn & Park, 2016)

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Methodology - Bayesian model averaging

BMA takes into account model choice uncertainty

Assuming linear regression model of volatility of stock prices:

RVt = ↵i + Xti 1
i
+ ✏it , ✏i ⇠ N(0, 2) (4)

The robustness of a variable in explaining the volatility can be

expressed by the Posterior Inclusion Probability (PIP):
J
X
j
P( h |D) = P( h |M )P(M j |D) (5)
j=1

Variables with a PIP higher than 0.5 are considered

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Variable ranking based on a PIP for realized volatility

Variable PIP
House price index 1.000
Default yield spread 1.000
Net national savings (% of GNI) 0.995
Credit-to-GDP gap 0.995
Global domestic credit to private sector 0.994
Money market interest rate 0.935
Credit growth 0.813
Gross liabilities of personal sector (% of GDP) 0.185
Global GDP 0.107
M1 0.095
Private final consumption expenditure 0.079
Government debt (% of GDP) 0.079
Dividend-price ratio 0.068
3-Month Treasury Bill 0.068
Current account (% of GDP) 0.061

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Variable ranking based on a PIP for realized
semi-volatilities

Positive realized volatility Negative realized volatility

Variable PIP Variable PIP
House price index 1.000 Default yield spread 1.000
Default yield spread 1.000 House price index 0.998
Net national savings (% of GNI) 0.996 Credit-to-GDP gap 0.896
Credit-to-GDP gap 0.986 Global domestic credit to private sector 0.889
Money market interest rate 0.982 Net national savings (% of GNI) 0.783
Global domestic credit to private sector 0.976 Money market interest rate 0.351
Credit growth 0.888 Gross liabilities of personal sector (% of GDP) 0.318
M1 0.162 Credit growth 0.247
Dividend-price ratio 0.107 Total tax burden (% of GDP) 0.161
Global GDP 0.106 M1 0.144
Index of consumer sentiment 0.102 3-Month Treasury Bill 0.109
Gross liabilities of personal sector (% of GDP) 0.087 Nominal e↵ective exchange rate 0.095
Government debt (% of GDP) 0.087 Global GDP 0.086
M3 0.084 Government debt (% of GDP) 0.066
Private final consumption expenditure 0.080 Output gap 0.063

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Regression results

RV PRV NRV
Constant 3.14*** 2.53*** 2.50***
[0.33] [0.42] [0.49]
House price index -0.26*** -0.25*** -0.23***
[0.03] [0.03] [0.03]
Net national savings (% of GNI) 0.4*** 0.42*** 0.25***
[0.04] [0.06] [0.05]
Credit-to-GDP gap -1.16*** -1.2*** -0.90***
[0.14] [0.17] [0.1]
Default yield spread 1.59*** 1.59*** 1.35***
[0.16] [0.19] [0.21]
Global domestic credit to private sector 1.34*** 1.42*** 0.89***
[0.2] [0.21] [0.11]
Credit growth -0.78*** -0.89*** -0.28
[0.17] [0.22] [0.23]
Money market interest rate 0.83*** 0.92***
[0.18] [0.19]
RSS 0.623 0.631 0.750
First order autocorrelation of residuals 0 .173 0.179 0.208
R2 63.82% 63.11% 52.977%
adj. R 2 61.33% 60.58% 50.23%

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Results for realized volatility

Realized volatility of stock prices in the US financial sector reacts to:

Changes in the house price index (-)
Changes in the credit-to-GDP gap (-)
Changes in the money market interest rate (+)
Changes in the global domestic credit to private sector (+)
Net national savings (% of GNI) (+)
Default yield spread (+)
Credit growth (-)

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Results for positive and negative semi-volatilities

Positive and negative realized volatilities are driven mostly by the

same set of variables with few di↵erences:
The money market interest rate is robust in the positive semi-volatility
model, but not in the negative semi-volatility model
The role of credit growth, credit-to-GDP gap and global domestic
credit to private sector (as percentage of GDP) declined

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 U.S. Financial Sector Volatility: A Bayesian Model
Averaging Perspective

Peter Gernát1 Zuzana Košt’álová1 Štefan Lyócsa2

1 Universityof Economics, Bratislava, Slovakia

peter.gernat@euba.sk
zuzana.kostalova@euba.sk
2 University
of Presov, Presov, Slovakia
Masaryk University, Brno, Czech Republic

10-11 June, 2019, INFINITI CONFERENCE

Gernát, Košt’álová, Lyócsa Infinity 2019 19 / 19