Financial Integration: A New Methodology and An Illustration

Andrew Rose and Robert Flood

No 2004/110, IMF Working Papers from International Monetary Fund

Abstract: This paper develops a simple methodology to test for asset integration, and applies it within and between American stock markets. Our technique relies on estimating and comparing expected risk-free rates across assets. Expected risk-free rates are allowed to vary freely over time, constrained only by the fact that they must be equal across (risk-adjusted) assets in well integrated markets. Assets are allowed to have standard risk characteristics, and are constrained by a factor model of covariances over short time periods. We find that implied expected risk-free rates vary dramatically over time, unlike short interest rates. Further, internal integration in the S&P 500 market is never rejected and is generally not rejected in the NASDAQ. Integration between the NASDAQ and the S&P, however, is always rejected dramatically.

Keywords: WP; Standard and Poor's; risk-free; rate; intertemporal; asset; market; expected; price; stock; conditional; open-economy asset-market integration concept; NASDAQ portfolio; cross-market condition; NASDAQ market; portfolio variance; Stocks; Stock markets; Factor models; Asset prices; Time series analysis (search for similar items in EconPapers)
Pages: 20
Date: 2004-06-01
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Citations: View citations in EconPapers (4)

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Related works:
Journal Article: Financial Integration: A New Methodology And An Illustration (2005)
Working Paper: Financial Integration: A New Methodology and an Illustration (2003)
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