Global macroeconomic shocks, time-varying covariances and tests of the international CAPM

Clare, A., O'Brien, R., Smith, P.N. and Thomas, S. (1996) Global macroeconomic shocks, time-varying covariances and tests of the international CAPM. Applied Economics Letters, 3 (2), 109-113. (doi:10.1080/135048596356816).

Record type: Article

Abstract

The mean variance efficiency (MVE) of a portfolio of international bonds and equities is tested using a CAPM model of excess returns. The conditional variances and covariances of the portfolio returns are allowed to time-vary according to shocks in up to three global macro-economic variables simultaneously. Although the hypothesis of MVE is easily rejected within a static version of the CAPM this is not the case at conventional significance levels in the CAPM with macro-economic shocks. Results suggest that there exists a dominant role for US macroeconomic disturbances for international capital markets. Integrating macro-economic disturbances more fully into the CAPM may provide theory-consistent models which do not rely solely upon time-series representations of time-varying return variances and covariances such as ARCH.

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