Oil price shocks and volatility spillovers in the Nigerian sovereign bond market

• Published date: 01 November 2017
• Author: Moses K. Tule,Umar B. Ndako,Samuel F. Onipede
• Date: 01 November 2017
• DOI: http://doi.org/10.1016/j.rfe.2017.03.003

Oil price shocks and volatility spillovers in the Nigerian sovereign

bond market☆

Moses K. Tule

a

,UmarB.Ndako

b,

⁎,SamuelF.Onipede

b

a

MonetaryPolicy Department, CentralBank of Nigeria, Nigeria

b

MonetaryPolicy Department,Nigeria

abstractarticle info

Articlehistory:

Received22 September 2016

Receivedin revised form 15 March 2017

Accepted18 March 2017

Availableonline 21 March 2017

JEL classifications:

C1

E27

E52

F31

G11

G15

This paper investigatesvolatility spillover in the Nigeriansovereign bond market arising from oil priceshocks,

using Vector Autoregres sive Moving Average - Asym metric Generalized Auto regressive Conditional

Heteroscedasticity (VARMA-AGARCH) model. The paper covers the period March 22, 2011 to April 14, 2016

and makes use of the dailydata of the Nigerian Sovereign Bond, Brent oiland West Texas Intermediate (WTI),

respectively.We endogenously and sequentially detect structuralbreak points using the test of Bai and Perron

(2003) framework. In order to accuratelyestimate the model, we modify it by incorporating the break points

into the VARMA-AGARCHmodel, a process which if ignored would lead to model misspecification.The results

obtaineddemonstrate a significantcross-market volatilitytransmission betweenoil and sovereign bondmarket

with ample sensitivity to structuralbreaks. The study also computes optimumweight portfolio and hedgeratio

both with andwithout structural breaks andresults equally indicate sensitivity to structuralbreaks.

© 2017 Elsevier Inc. All rights reserved.

Keywords:

Oil price

Bond market

Volatility

VARMA-GARCH

Spillovereffect

Portfoliomanagement

1. Introduction

It has beenobserved that international financialmarkets integration

and opening upof economies across the globe havehelped in promot-

ing economic growthand development. Such developments are, how-

ever, characterized by high level of vo latility and uncertainty,

particularly in developing and emerging economies(Bekaert, Harvey,

& Lunbland, 2003, Kaminsky & Schmuckler, 2001). With these leve ls

of integration and uncertainty in the financial markets, securities and

commodity prices have now become sen sitive to different types of

shocks, such as economic, politic al, social, and other unanticipate d

events (Mensiet al. 2013).

The strategicrole of the energymarket, especiallyoil, to households,

firms, national, and globaleconomies cannot be overemphasized, since

shock to oil pricesinvariably transmitsto other sectors of the economy

(Hamilton, 2003, Lee & Ni, 2002). Policy response to oil price shocks,

particularly monetary policy, is wel l documented in the works of

Bernanke, Gertler, and Watson (1997),Kilian and Park (2009),Kilian

and Lewis (2011), and Basher, Huag, and Sardosky (2012). Therefore,

a clear understanding of the implications of oil price movements for

consumer behavior and national economy is crucial to policy makers.

In addition,understandingthe sources of internationalmarketslinkages

and how volatility is transmitted across different international financial

markets is important for international diversification, pricing of securi-

ties and portfoliomanagement decisions (Skintzi& Refenes, 2006).

The studyof volatility dynamics whenaccurately estimatedparticu-

larly betweenoil and other securityprices could help inpricing models,

forecastingand providinga better evaluationof the overall impacton fi-

nancial markets (Ewing and Malik, 2015). Thus, understanding these

processes is crucial to both intern ational and domestic investors, as

well as policymakers and other stakeholders.

Empirical literature on volatility transmission in financial markets

has thus far substantially focuses on the volatility spillover between in-

ternational stock markets, international bond markets, spillovers be-

tween the crude oilmarket and stock markets, stock marketand bond

markets. Examplesof these empirical works can be found in Clareand

Reviewof Financial Economics 35 (2017)57–65

☆The views expressed in this paper are those of the authors and do not necessarily

reflectthose of the Central Bank of Nigeria.

⁎Correspondingauthorat: No 33, Tafawa Balewa Way,Central Business District,P.M.B.

0187, Garki,Abuja, Nigeria.

E-mailaddress: ubndako@cbn.gov.ng(U.B. Ndako).

http://dx.doi.org/10.1016/j.rfe.2017.03.003

1058-3300/©2017 Elsevier Inc. All rightsreserved.

Contents listsavailable at ScienceDirect

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