Tail risk connectedness in G7 stock markets: Understanding the impact of COVID-19 and related variants

Abstract

This study uses a time-varying parameter vector autoregression (TVP-VAR) approach to examine the transmission of tail risk among G7 stock markets from January 2000 to September 2022, focusing on major financial episodes like the dot-com collapse, the 2008 Global Financial Crisis, and the European debt crisis, as well as the COVID-19 pandemic and its variants. Our analysis shows fluctuating tail risk connectedness across G7 markets during the pandemic, influenced by lockdowns, supply chain issues, interventions, and investor sentiment. Notably, the UK and Italy were major tail risk transmitters, whereas Japan predominantly absorbed risk, highlighting its distinct vulnerability. The findings stress the need for a comprehensive understanding of tail risk dynamics to inform decisions by investors, governments, and regulators, ensuring financial system resilience during heightened economic stress.