City Research Online

Structural Changes in Asset Correlations And Macroeconomic Fundamentals

Marchese, M. ORCID: 0000-0001-6801-911X, Kyriakou, I. ORCID: 0000-0001-9592-596X, Di Iorio, F. & Tamvakis, M. ORCID: 0000-0002-5056-0159 (2023). Structural Changes in Asset Correlations And Macroeconomic Fundamentals. Commodity Insights Digest, 1(2), doi: 10.2139/ssrn.4488060


The margin between the price of crude oil and one or more of its refined products, known as the crack spread, is a key risk measure in the energy trading industry. Effective forecasts of crack spread returns require modelling the co-movements of crude oil and refined product prices. To this end, in this paper we re-examine the relationship between parameter instability in energy commodity returns correlations and macroeconomic fundamentals using a new correlation component model dubbed the Regime Switching DCC-MIDAS, which distinguishes regime switches in the short and long-run correlations. Breaks in the secular component are associated with low-frequency macroeconomic fundamentals, while short-run correlations are characterized by abrupt breaks linked to market constraints. Our results reveal the benefits of our specification for Value-at-Risk and portfolio optimization in terms of forecasting performance at medium and long horizons and in times of intense market instability, such as the recent pandemic crisis.

Publication Type: Article
Additional Information: © 2023 Bayes Business School – City, University of London (U.K.)
Subjects: H Social Sciences > HB Economic Theory
H Social Sciences > HG Finance
Departments: School of Policy & Global Affairs > Economics
Bayes Business School > Finance
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