US-China Tensions and Stock Market Co-movement between the US and China: Insights from a DCC-DAGARCH-MIDAS Model

Jiawei Xu, Elie Bouri (), Libing Fang () and Rangan Gupta ()
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Jiawei Xu: School of Management and Engineering, Digital Finance Key Laboratory of Jiangsu Province, Nanjing University, 22 Hankou Road, Nanjing, Jiangsu 210093, China
Elie Bouri: School of Business, Lebanese American University, Lebanon
Libing Fang: Department of Economics, University of Pretoria, Private Bag X20, Hatfield 0028, South Africa
Rangan Gupta: Department of Economics, University of Pretoria, Private Bag X20, Hatfield 0028, South Africa

No 202522, Working Papers from University of Pretoria, Department of Economics

Abstract: The US and China maintain deep economic ties, yet geopolitical tensions, especially during events such as the trade war, exert significant influence on their financial markets. This study examines how US-China tensions, as captured by the US-China Tension Index (UCT), affect the correlation between US and Chinese stock markets and stock market volatility using a DCC-DAGARCH-MIDAS model. Unlike prior studies that consider geopolitical risk and trade war shocks separately or give the same weight to positive and negative shocks of UCT, our approach jointly models asymmetric short-term volatility, macro-driven long-term variance, dynamic inter-market correlations, and assigns different weights to positive and negative shocks of UCT. The findings show that heightened tensions lead to stronger co-movements in return volatility, with effects becoming more immediate during the trade war. Beyond aggregate indices, we analyze the multi-tiered structure of the Chinese stock market, covering small and medium-sized enterprises (SMEs), blue-chip stocks, and technology-focused stocks. The results show that sensitivities vary across China's stock market indices, where SME index displays the most sensitive to UCT. These results provide practical insights for investors and policymakers aiming to manage risks in an increasingly geopolitically sensitive environment.

Keywords: US-China Tensions; Geopolitical Tensions; US and Chinese Stock Returns and Volatility; DCC-DA-GARCH-MIDAS (search for similar items in EconPapers)
Pages: 30 pages
Date: 2025-07
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