Investigating the Association between Oil VIX and Equity VIX: Evidence from China

Abstract

To the best of our knowledge, this is the initial study to investigate the linkages between implied volatilities of global crude oil and Chinese equity markets. At the empirical stage, the bivariate VAR-GARCH model has been adopted to assess the relationship between oil volatility index (OVX) and Chinese equity market volatility index (VXFXI). In addition, we also employ the VAR-AGARCH approach for robustness check. The major findings of our empirical analysis can be summarized as follows. First, we do not find any evidence of return spillover between these two implied volatility indices. Second, there exists a unidirectional volatility spillover running from oil to equity options. The results thus suggest that global oil market embodies a crucial role in predicting the Chinese equity market trends. We finally document that significant portfolio diversification benefits are possible if investors hold options in both the oil and equity markets. Our results are robust in that applications of different methods lead to similar conclusions. The findings have important implication for investors and policymakers who are interested in derivative pricing, portfolio rebalancing and risk management practices.