Flight to quality? Macroeconomic and financial market events and portfolio flows between stocks and commodities
KeywordsFlight-to-quality ; Dynamic conditional correlations ; Rolling window ; OLS ; Panel analysis ; Commodities ; Equities
This thesis analyzes the existence of flight-to-quality from equities to commodities. Flight-to-quality is present if correlations between equities and commodities decrease in falling stock markets. In the literature, raw commodity returns are used without considering that commodities are often used as inputs in industrial production. Therefore, our analysis considers that there is a specific supply and demand for commodities by using a regression of the raw commodity returns, on factors identified in the existing literature. Then time varying correlations are estimated by implementing two methods: rolling window correlations and dynamic conditional correlations. Changes of these correlations are analyzed through time without an a priori specification of any crisis period. Subsequently, OLS regressions are used in order to identify flight-to-quality in a posteriori specified crisis periods. A panel regression is also used in order to treat commodities as a homogeneous asset class. Monthly S&P500 index returns and 19 commodities are analyzed. Our findings vary depending on the methodology used. Our main conclusions are that flight-to-quality from stocks to most commodities is found during crises not a priori specified and to all commodities during crises specified a posteriori. Thus, in periods of economic turmoil and increased risk-aversion, commodities become an alternative investment.