Systemic risk spillover of financial institutions in China: A copula-DCC-GARCH approach

Abstract

In this paper, we study the systemic risk spillover between several financial sectors and the stock market in China from 2009 to 2021 using the copula-DCC-GARCH model. The financial sectors concerned include banking, security, insurance, real estate, and other finance sectors. We first obtain time-varying correlations between financial sectors and the stock market from the copula-DCC-GARCH model. Furthermore, we find evidence of high dynamic correlations between the financial sectors and the stock market, varying from 0.7 to 0.9, indicating a strong risk linkage between the financial sectors and the stock market. Simultaneously, we analyze the spillovers between the financial sectors and the stock market by conditional VaR and the delta CoVaR and employ the bivariate Student-t-copula function to calculate CoVaR and ΔCoVaR. When we consider the risk spillovers from financial sectors to the stock markets, the results suggest that the highest risk spillover occurs in the banking sector, followed by the security and real estate sectors, showing that the banking sector remains a significant source of systemic risk in China. Besides, we discover that among the financial sector risk spillovers, the security industry has the highest risk spillover. As a result of the real estate sector's significant role in the financial system, it has now emerged as one of the security and banking sectors' most significant sources of risk. From the dynamic of the stock market CoVaR, it seems that the CoVaR of the stock market by a different risk source will drop rapidly (loss rise) when a major risk event occurs. Our findings provide important risk warnings and management implications for regulators, investors, and portfolio managers.