Dynamic Correlations and Portfolio Optimization between Islamic and Conventional Equity Indexes: A Vine Copula-Based Approach
Authors: Imen Dhaou
This study examines conditional Value at Risk by applying the GJR-EVT-Copula model, and finds the optimal portfolio for eight Dow Jones Islamic-conventional pairs. Our methodology consists of modeling the data by a bivariate GJR-GARCH model in which we extract the filtered residuals and then apply the Peak over threshold model (POT) to fit the residual tails in order to model marginal distributions. After that, we use pair-copula to find the optimal portfolio risk dependence structure. Finally, with Monte Carlo simulations, we estimate the Value at Risk (VaR) and the conditional Value at Risk (CVaR). The empirical results show the VaR and CVaR values for an equally weighted portfolio of Dow Jones Islamic-conventional pairs. In sum, we found that the optimal investment focuses on Islamic-conventional US Market index pairs because of high investment proportion; however, all other index pairs have low investment proportion. These results deliver some real repercussions for portfolio managers and policymakers concerning to optimal asset allocations, portfolio risk management and the diversification advantages of these markets.
Digital Object Identifier (DOI): doi.org/10.5281/zenodo.1316195Procedia APA BibTeX Chicago EndNote Harvard JSON MLA RIS XML ISO 690 PDF Downloads 810
References:S. Naughton, T. Naughton, “Religion, ethics and stock trading: The case of an Islamic equities market,” Journal of Business Ethics, vol. 23, pp. 145-159, 2000.
 R. Sukmana, M. Kholid, (2010), Retrieved on 30/3/2015 from http://www.iefpedia.com/english/wpcontent/uploads/2010/12/Impact-of-global-financial-crisis-on-Islamic-and-conventional-stocks-Muhamad-Kholid.pdf.
 C. Setiawan, H. Oktariza, “Syariah and conventional stocks performance of public companies listed on Indonesia Stock Exchange, ” Journal of Accounting Finance and Economics, vol. 3, no. 1, pp. 51-64, 2013.
 A. G. F. Hoepner, H. G. Rammal and M. Rezec, “Islamic Mutual Funds’ Financial Performance and International Investment Style: Evidence from 20 Countries”, European Journal of Finance, vol. 17, pp. 829-850, 2011.
 K. Reddy, M. Fu, “Does Shariah h compliant stocks perform better than conventional stocks? A comparative study of stocks listed on the Australia stock exchange,” Asian Journal of Finance and Accounting, vol. 6, no. 2, pp. 155-170, 2014.
 H. Markowitz, “Portfolio Selection,” Journal of Finance, vol. 25, pp. 77-91, 1952.
 P. Embrechts, S. Resnick, and G, Samorodnitsky, “Extreme value theory as a risk management tool,” North Amer. Actuar. J, vol. 26, pp. 30-41, 1999.
 U. Cherubini, E. Luciano and W, Vecchiato, “Copula Methods in Finance,” West Sussex: Wiley, 2004.
 E. Jondeau, M. Rockinger, “The Copula-GARCH model of conditional dependencies: An international stock market application,” Journal of International Money and Finance, vol. 25, pp. 827-853, 2006.
 H. Joe, “Families of m-variate distributions with given margins and m(m − 1)/2 bivariate dependence parameters,” In: Ruschendorf, L.,Schweizer, B., Taylor, M.D. (Eds.), Distributions with Fixed Marginals and Related Topics, 1996.
 T. Bedford, T. M. R Cooke, “Probability density decomposition for conditionally dependent random variables modeled by vines,” Annals of Mathematics and Artificial Intelligence, vol. 32, pp. 245–268, 2001.
 K. Aas, C. Czado, A. Frigessi and H. Bakken, “Pair-copula constructions of multiple dependence,” Insurance. Mathematics & Economics, vol. 44, pp. 182–198, 2009.
 T. R. Rockafellar, S. Uryasev, “Optimization of Conditional Value-at-Risk,” Journal of Risk, vol. 2, pp. 21–41, 2000.
 J. A. McNeil, R. Frey, “Estimation of tail-related risk measures for heteroscedastic financial time series: an extreme value approach,” Journal of Empirical Finance, vol. 7, pp. 271-300, 2000.
 R. L. Glosten, R. Jagannathan and R. E. D. Runkle, “On the relation between the expected value and the volatility of the nominal excess return on stocks,” Journal of Finance, vol. 48, pp. 1779-1801, 1993.
 Z. Umar, “Islamic vs conventional equities in a strategic asset allocation framework,” Pacific-Basin Finance Journal, vol. 42, pp. 1-10, 2017.
 G. Dewandaru, R. Masih, O. IsmathBacha and A. Mansur M. Masih, “The role of Islamic asset classes in the diversified portfolios: Mean variance spanning test,” Emerging Markets Review, vol. 30, pp. 66-95, 1-Mar-2017.
 N. Achsani, J. Effendi, and Z. Abidin, “Dynamic Interdependence Among International Islamic Stock Market Indices: Evidence from 2000–2007,” Proceedings of the International Conference of the Islamic Capital Markets, organized by the Islamic Research and Training Institute: Islamic Development Bank, Jakarta, Indonesia, 2007.
 A. Abu-Alkheil, W. A. Khan, B. Parikh and S. K. Mohanty, “Dynamic co-integration and portfolio diversification of Islamic and conventional indices: Global evidence,” The Quarterly Review of Economics and Finance, 1-Feb-2017.
 W. Mensi, S .Hammoudeh, C. J. Reboredo, J. C. and K. D. Nguyen, “Are Shariah stocks, gold and U.S. Treasury hedges and/or safe havens for the oil-based GCC markets,” Emerging Markets Review, vol. 24, pp. 101 – 121, 2015.
 C. Aloui, B. Hkiri, “Co-movements of GCC emerging stock markets: new evidence from wavelet coherence analysis,” Economic Modelling, Vol. 36, pp. 421–431, 2014.
 F. S. Najeeb, O. Bacha, and M. Masih, “Does heterogeneity in investment horizons affect portfolio diversification? Some insights using M-GARCH-DCC and wavelet correlation analysis,” Emerging Markets Finance and Trade, vol. 51, no. 1, pp. 188-208, 2015.
 M. A. Rahim, M. Masih, “Portfolio diversification benefits of Islamic investors with their major trading partners: Evidence from Malaysia based on MGARCH-DCC and wavelet approaches,” Economic Modelling,vol. 54, pp. 425-438, 2016.
 M. Majid, S. Kassim, “Portfolio Diversification Benefits Across Global Equity Markets,” Journal of Economic Cooperation and Development, vol. 31, no. 4: pp. 103–126, 2010.
 M. B. Abbes, Y. Trichilli, “Islamic stock markets and potential diversification benefits,” Borsa Istanbul Review, vol. 15, no. 2, pp. 93-105, 2015.
 B. Saiti, O. I. Bacha, M. Masih, “diversification benefits from Islamic investment during the financial turmoil: The case for the US-based equity investors,” Borsa Istanbul Review 14, 2014.
 M.Y.M. Hussin, Y.A. Yusof, F. Muhammad, A.A. Razak, E. Hashim, N. F. Marwan, “The integration of Islamic stock markets: does a problem for investors?,” Labuan e-Journal of Muamalat and Society, vol. 7, pp. 17-27, 2013.
 D. Kurowicka, M. R. Cooke, “Distributions—free continuous bayesian belief nets,” Fourth International Conference on Mathematical Methods in Reliability Methodology and Practice. Santa Fe, New Mexico, 2004.
 E. Këllezi, M. Gilli, “Extreme value theory for tail-related risk measures,” presented at the Computational Finance 2000 conference, May 31 to June 2, 2000, London Business School.
 J. Pickands, “Statistical inference using extreme order statistics,” The Annals of Statistics, vol. 3, no. 1, pp. 119-131, 1975.
 A. Balkema, L. De Haan, “Residual life time at great age,” Annals of Probability, vol .2, no.5, pp. 792-804, 1974.
 A. Meucci, “Beyond Black–Litterman in Practice,” Risk Magazine, vol. 19, pp. 114–119, 2006.
 C. Czado, U. Schepsmeier and A. Min, “Maximum likelihood estimation of mixed C-vines with application to exchange rates,” To appear in Statistical Modelling, 2011.
 K. A. Nikoloulopoulos, H. Joe, H. Li, “Vine copulas with asymmetric tail dependence and applications to financial return data,” Computational Statistics and Data Analysis. In press, 2012.