Investigating Stochastic Volatility during Periods of Financial Distress: Evidence from International Financial Markets

Abstract

Capturing the dynamic properties of financial market volatility has always been very auspicious in asset pricing. The mean reverting properties of financial markets are of paramount importance for investment decision makers with far reaching implications. The purpose of this study was to investigate stochastic volatility in international financial markets during periods of financial distress. Accordingly, a Heston model was used to stochastic volatility in the CAC 40, DAX, JSE, Nasdaq Index and the Nikkei-225 during the 2007-2008 financial crisis and the Covid-19 pandemic. This study used January 1, 2020 to December 31, 2021 and December 1, 2007 to June 30, 2009 as the sample period representing the Covid-19 pandemic and financial crisis respectively. The findings of this study revealed the extortionate stochastic volatility during the Covid-19 pandemic compared to the financial crisis. There will be slightly higher than normal arbitrage opportunities and mispricing in most financial markets as a result of the pandemic.