Influence of Local and Global Economic Policy Uncertainty on the Volatility of US State-Level Equity Returns: Evidence from a GARCH-MIDAS Approach with Shrinkage and Cluster Analysis

Vincenzo Candila (), Oguzhan Cepni, Giampiero Gallo () and Rangan Gupta
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Vincenzo Candila: Department of Economics and Statistics, University of Salerno, Italy

No 202437, Working Papers from University of Pretoria, Department of Economics

Abstract: This paper examines the influence of local (state-specific) and global Economic Policy Uncertainty (EPU) on the volatility of US state-level equity returns. We employ a GARCH- MIDAS approach that incorporates multiple EPU indices as low-frequency predictors of daily stock return volatility. To address the challenge of selecting the most relevant EPU indices, we utilize an Elastic Net (EN) shrinkage method to combine forecasts from different models. Our results reveal that the combined model, which leverages information from both local and global EPU indices, generally outperforms single specifications. Further, a cluster analysis based on the volatility forecasts uncovers distinct geographical patterns, sug- gesting that state-level volatility is influenced by both state-specific and nationwide policy uncertainties. These findings highlight the importance of considering both local and global economic policy uncertainty in understanding and predicting the volatility dynamics at the regional level.

Keywords: GARCH-MIDAS; Economic Policy Uncertainty; Elastic Net; Forecast Combination; Cluster Analysis (search for similar items in EconPapers)
JEL-codes: C32 C53 D80 G10 G17 (search for similar items in EconPapers)
Pages: 26 pages
Date: 2024-08
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Working Paper: Influence of Local and Global Economic Policy Uncertainty on the volatility of US state-level equity returns: Evidence from a GARCH-MIDAS approach with Shrinkage and Cluster Analysis (2024)
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