Cointegrating relationships in international stock markets

Abstract

It is commonly accepted that the performance of the New Zealand economy is highly dependent upon the performance of the world economy. As such, strength in the world economy should lead to strength in the New Zealand economy that should be reflected in the performance of the New Zealand stock market. The purpose of this study is to test, using the Johansen Cointegration technique, how in fact the New Zealand stock market is related to some of the major economies throughout the world. My results suggest the presence of 3 cointegrating relationships among the stock markets of the United States, Japan Australia, New Zealand and the United Kingdom. This number is quite high and suggests that in the long-run diversification benefits from investing offshore are small. There is also evidence suggesting the poor performance of the New Zealand stock market since the stock market crash of 1987 has a major influence on these results. This is contrary to the common belief that movements in small stock markets are driven by movements in the major stock markets.