Research pick: Stockmarkets in the time of covid - "Examining the impact of coronavirus on stock markets: investigating the cointegration and transmission of shocks between China and the world’s largest stock markets"

A new study in the International Journal of Business and Emerging Markets looks at how the beginning of the COVID-19 pandemic affect stockmarkets in China and how the “shocks” experienced there were transmitted to the world’s largest stockmarkets.

Naveed Ul Haq and Abid Shirwani of the University of Management and Technology in Lahore, Pakistan, used a wide range of analytical tools to examine the ebb and flow of value in the long-run and short-term over the period January 2012 to March 2020, which culminated in the announcement of a global pandemic. The tools included unit root test, Johansen cointegration test, vector error correction model, Granger causality test, variance decomposition, and impulse response function test.

The team observed long-run relationships between stock markets and could clearly see short-run results showing that the previous day’s stock prices in Hong Kong and the US had a positive relationship with the Chinese stockmarket. The Granger causality results, however, showed something different – a unidirectional long-run causality from the UK, Hong Kong and Japan to China. In the short-run causality results the effects are bidirectional between China and the world’s major stockmarkets.

The team explains how their findings support the well-known prospect theory or loss-aversion theory, whereby investors are generally more afraid of loss then they are encouraged by a gain. This means that given a choice of two different prospects, investors will generally choose the one that has less chance of ending in a loss rather than the one that offers more gains. In terms of the COVID-19 crisis, the study suggests that it was not the socioeconomic circumstances prior to the pandemic that influenced stockmarket reactions but rather the health policies implemented during the crisis that had the most impact.

Ul Haq, N. and Shirwani, A.H.K. (2021) ‘Examining the impact of coronavirus on stock markets: investigating the cointegration and transmission of shocks between China and the world’s largest stock markets’, Int. J. Business and Emerging Markets, Vol. 13, No. 2, pp.206–232.