The Interrelationships between U.S. and Foreign Equity Market Yields Tests of Granger Causality

Steven J. Cochran*
Villanova University
Iqbal MansurX*
Widener University
Abstract. This study examines the interrelationships between
yields on the U.S. and several foreign market portfolios over the
1980-89 period. Tests of Granger causality are used to investigate
the effects of uni-directional causality, bi-directional causality,
and contemporaneous adjustment in the determination of market
rates of return. The results indicate that international equity
market returns are largely contemporaneously determined, and
the significance of contemporaneous effects varied over time.
Uni-directional and bi-directional causality were found to be
relatively weak.

Numerous studies have explored the interdependencies among international
equity markets. In investigating the degree of capital market integration,
Agmon [1972, 19731 found some evidence of a multinational market, consisting
of a central market, the United States, and three peripheral markets,
Germany, the United Kingdom, and Japan. Although stock prices in the
peripheral markets were determined to respond immediately to price changes
in the U.S. market index, no significant relationships were found to exist
among the peripheral markets. Joy et al. [1976], in a study of co-movements in returns, found low levels of correlation among major European equity
markets. Similar results were obtained by Swanson [I9801 in a study of the
co-movements in returns between several markets over the 1960-69 and
1970-79 periods. An important finding of this study was that, with the
exception of Canada, weak correlations existed between the U.S. and other
markets. By analyzing patterns in equity returns, Ibbotson, Carr and Robinson
[I9821 were able to identify distinct "blocs" of markets possessing strong
correlations in returns. The determinants of these co-movements were hypothesized
to be geographical proximity, trade and institutional barriers, and
cultural similarities.'