The Volatility Dynamics Under an Endogenous Markov-Switching Framework: A Cross Market Approach

Abstract

This study examines the endogeneity effects of the US market implied volatility index (VIX) on the dynamics of the Korean implied volatility index (VKOSPI) under an advanced Markov-switching framework. Two types of endogeneity are considered. First, the U.S. variables in the regressors can be correlated with disturbance terms. This allows the direct and indirect effects of global shocks on Korean stock market volatility index to be measured. Second, regime-switching probabilities can be correlated with the disturbance terms. The estimation results show that both types of endogeneity are present in the US variables and more significant during the Global Financial Crisis.