Domestic and foreign sources of volatility spillover to South African asset classes

Abstract

The paper characterises domestic and foreign sources of volatility transmission for South African (SA) bonds, commodities, currencies, and equities. We introduce a small-open-economy extension of the volatility spillover model proposed by Diebold and Yilmaz (2012). Based on generalised variance decompositions (Pesaran and Shin, 1998) of a vector autoregressive model, this approach combines bidirectional spillovers exchanged by domestic assets with volatility injections imported from shocks to the global financial system. The analysis relates to a sample of daily observations ranging from October 1996 to June 2010. The estimated spillover levels are time-varying, and increase during domestic and foreign crises. Average domestic spillovers of 38% exceed average foreign spillovers of 4.7%, and maximum domestic spillovers estimated for the United States for a similar sample period (Diebold and Yilmaz, 2012). These findings suggest a high degree of systemic risk in SA and, furthermore, that this risk is predominantly related to country-specific factors. Commodity and equity shocks are identified as the primary sources of spillovers to other asset classes.