Do U.S. investors worry about fear in international equity markets? Empirical evidence on dynamic panel data

• Author: Chaiyuth Padungsaksawasdi,Massaporn Cheuathonghua
• Published date: 01 July 2019
• Date: 01 July 2019
• DOI: http://doi.org/10.1002/ijfe.1724

RESEARCH ARTICLE

Do U.S. investors worry about fear in international equity

markets? Empirical evidence on dynamic panel data

Massaporn Cheuathonghua

1

| Chaiyuth Padungsaksawasdi

2

1

Lecturer in Finance, College of

Innovation Management, Rajamangala

University of Technology Rattanakosin,

Nakorn Pathom, Thailand 73170

2

Thammasat Business School,

Department of Finance, Thammasat

University, Bangkok, Thailand

Correspondence

Chaiyuth Padungsaksawasdi, Assistant

Professor of Finance, Department of

Finance, Thammasat Business School,

Thammasat University, Bangkok,

Thailand 10200.

Email: chaiyuth@tbs.tu.ac.th

Abstract

This is the first study of the dynamic relation between U.S. bilateral equity

flows and the Chicago Board Options Exchange (CBOE's) implied volatility

around the globe that employs the panel vector autoregression. We primarily

find the unidirectional interdependence relation from the fear indices to the

U.S. net equity flows and to the U.S. equity outflows, respectively. In addition,

the impact of the fear indices on the U.S. equity flows is asymmetric, suggest-

ing that U.S. investors are more sensitive during a high level of fear in foreign

equity markets. Moreover, flight‐to‐quality, informational frictions and dis-

tance, and benefits of international portfolio diversification help to explain

the movement of U.S. capital flows between European countries and Asia‐

Pacific countries. Our findings call for policy makers in local equity markets

to consider the impact.

KEYWORDS

Fear, international portfolio allocation, panel VAR, the U.S.bilateral flows, VIX

1|INTRODUCTION

Financial liberalization and mobilization have induced a

rapid expansion of huge foreign capital flows during the

last few decades. World Bank reported an almost five‐

time increase in the amount of net foreign equity flows

in global portfolios, starting from $162.097 billion in

1960 to $647.111 billion in 2015. A proportion of foreign

equity flows into high‐income countries accounted for

$625.926 billion in 2015, whereas that of foreign equity

flows into low‐income countries was only $34.498 mil-

lion. This information emphasizes a larger impact of for-

eign equity flows in more advanced economies. As cross‐

border flows largely supply capital to domestic markets, a

sudden and extensive withdrawal of the foreign equity

flows could destabilize the international financial system.

In the United States, Department of the Treasury

reported that U.S. residents hold $78.716 billion in for-

eign securities and foreign residents hold $84.422 billion

in U.S. securities, showing the importance of U.S. capital

flows in international financial markets. Thus, both fun-

damental and psychological factors in domestic equity

markets are important to attract U.S. capital.

Even though existing literature extensively finds a

positive dynamic interdependence between local stock

returns and international portfolio flows (i.e., Brennan

& Cao, 1997; Cutler, Poterba, & Summers, 1990) and

an asymmetric and negative relation between implied

volatility (as a proxy of investor fear) and return (i.e.,

Padungsaksawasdi & Daigler, 2014) in stock markets,

none has explored the interaction between local investor

fear and foreign equity flow (hence, U.S. bilateral

equity flow).

The popularity of the use of the CBOE's VIX method-

ology as an investor fear gauge is widely acceptable

around the globe, because the VIX measures the overall

We thank Maria de Boyrie, Pornchai Chunhachinda, Seksak

Jumreornvong, Sakkakom Maneenop, Anutchanat Jaroenjitrkam, and

Tatre Jantarakolica for their suggestions and comments.

Received: 9 January 2018 Accepted: 21 March 2019

DOI: 10.1002/ijfe.1724

1390 © 2019 John Wiley & Sons, Ltd. Int J Fin Econ. 2019;24:1390–1403.wileyonlinelibrary.com/journal/ijfe