New evidence on dynamic interactions between biofuel crops, crude oil, and US and European equities—A quinquevariate approach

Abstract

This paper quantitatively investigates the return transmission, volatility spillovers, dynamic correlations, and financial risks between corn, soybean, and crude oil futures and US and European equities. Specifically, by applying our newly extended quinquevariate dynamic conditional correlation (DCC) system with asymmetric spillovers and skew-t errors, we obtain the following new evidence. First, during our recent sample period, the nexuses and dynamic interactions between corn, soybean, and crude oil futures and US and European equities have tightened. Second, we find strong return transmission from US equities to corn, soybean, and crude oil futures and European equities. Third, we clarify significant volatility spillovers that are tied to the leverage effect, from US and European equities to corn and crude oil futures, indicating that downside risk in equity markets is important when considering volatility spillovers to fuel and energy markets. Using the conditional variances and covariances from our new system, we further derive more precise time-varying optimal hedge ratios and optimal portfolio weights. These newly find that for the three asset classes of biofuel crops, crude oil, and equities, hedging one asset class with the other asset classes is effective, and well-balanced portfolios constructed using the three asset classes are optimal.