Information Transmission Between Stock and Bond Markets During the Eurozone Debt Crisis: Evidence From Industry Returns

Abstract

I analyze the Granger causality in distribution between sovereign bonds and industry indexes in the five European countries most affected by the debt crisis: Greece, Ireland, Italy, Portugal, and Spain. Prior research assessed the impact of the debt crisis on the financial firms, but its effect on other industries was broadly neglected. My results reveal that, at the height of the crisis, delayed shocks transmission from the sovereign bond to the stock market occurred mainly in Greece. At the industry level, there is no evidence of lagged response of the financial industry to negative sovereign debt shocks, but sovereign debt leads other industries in, at least, one country. These findings are consistent with the investor inattention hypothesis, which states that investors tend to specialize in specific markets, due to their limited availability of time and resources and the cost of information gathering, and information flows slowly across markets.