Cointegration between stock markets and cointegration between stock markets and

When considering investing or establishing a new factory in foreign country, the investor must take into account the exchange rate between domestic and foreign currency. He or she prefers to invest in countries where the currency is expected to appreciate and through currency appreciation better gains in domestic currency are achieved. It is highly important that investor knows whether the domestic stock markets are cointegrated with the exchange rate or not in order to being able to utilize exchange rate movements.

Especially during the financial crises the existence of cointegration is important factor because otherwise enormous losses might occur. The long-run relationship between stock markets and exchange rate during the recent financial crisis is ex-amined by Tsagkanos and Siriopoulos (2013). They tried to find out whether Eu-rotop 300 or Dow Jones Index is cointegrated with euro-dollar exchange rates or not by applying non-linear cointegration model. They reported positive long-run relationship from Eurotop 300 to euro-dollar exchange rate while there was no long-run relationship between Dow Jones and euro-dollar exchange rate. At 10%

level Tsagkanos and Siriopoulus (2013) concluded that in the pre-crisis period, the causality runs from the exchange rate to stock markets whereas during the crisis the causality runs from stock markets to exchange rates.

Similar to Tsagkanos and Siriopoulos (2013), Kollias et al. (2012) investigated the long-run relationship and causality between European stock markets and the euro-dollar exchange rate. They applied rolling cointegration method for daily data from January 2002 to December 2008. They did not find any cointegration among the variables. However, they concluded that causality between variables is time vari-ant which is consistent with the study of Tsagkanos and Siriopoulos (2013). Long-run relationship between stock markets and exchange rate was neither found by Zhao (2010) who examined the linkages between Renminbi exchange rate and Chinese stock market. However, Rutledge et al. (2014) found cointegration be-tween Renminbi exchange rate and Chinese industry specific stock indices. They also divided their sample period into subsamples and concluded that stock mar-kets and exchange rate were not cointegrated during the crisis period. Rutledge et al. (2014) reported that causality between stock markets and exchange rate is mainly bi-directional. However, no causality was detected during the financial crisis which is different to findings of Tsagkanos and Siriopoulos (2013).

Kim (2003) examined the cointegration among the U.S. stock markets and macro-economic variables (e.g. exchange rate) for time period 1974-1998. He found that U.S. stock markets have long-run relationship with the macroeconomic variables.

Variance decomposition analysis revealed that variation in the stock prices are also influenced by the interest rate variation whereas stock price variations cause variations in inflation, exchange rate and industrial production.

As globalization and the removing of the restrictions on capital inflows have oc-curred, one might expect the stock markets around the world to become more in-tegrated. The convergence between developed European and emerging European stock markets due to acceptance for EU member and adoption of Euro was exam-ined by Dunis et al. (2013). The Johansen cointegration test showed that ac-ceptance for EU member induces long-run relationship between developed Euro-pean countries and Cyprus, Slovakia and Slovenia. After the adoption of Euro only Malta and Slovenia exhibited long-run relationship with the rest of the euro area.

For the further analysis Dunis et al. (2013) performed beta- and sigma-convergence test and the conclusion was same as in the Johansen cointegration test.

Syriopoulos (2007) also examined the relationship between emerging Central Eu-ropean countries and developed stock markets (USA and Germany). He divided the sample into pre-EMU and post-EMU periods and concluded that emerging markets are cointegrated with their developed counterparts. The Granger causality showed that both U.S. and German stock markets tend to lead emerging markets in both periods. Syllignakis and Kouretas (2010) conducted similar study to Syriopoulos (2007) but they added more emerging European countries into the analysis. Syllignakis and Kouretas (2010) also found that emerging European stock markets are cointegrated with their developed counterparts. In addition they performed common trend analysis which revealed that there were more common trends than cointegrating vectors which means that markets can only be partially integrated. Sylligkanis and Kouretas (2010) also found that EU accession process was an important factor for the convergence between emerging and developed markets.

Similar studies (Phengpis & Swanson (2006) and Aggarwal & Kyaw (2005)) were conducted considering the impact of the North American Free Trade Agreement (NAFTA) on the relationships between its members’ stock markets. Phengis and Swamnson (2006) found no cointegration between variables and concluded that cointegration might be time-varying since cointegration was found in the rolling window analysis during the crisis period. They also found that short-run interde-pendencies had increased after the adoption of the NAFTA. Slightly different re-sults were presented by Aggarwal and Kyaw (2005) who found cointegration in the post-NAFTA period. However, Aggarwal and Kyaw (2005) used daily, weekly and monthly data whereas Phengpis and Swanson (2006) used only weekly data. Ag-garwal and Kyaw (2005) also tested cointegration pairwise which showed different

results. Finally, based on this evidence NAFTA has brought some convergence among the U.S, Canadian and Mexican stock markets.