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The Effects Of The Global Financial Crisis on Capital Markets in Central and
Eastern Europe

Conference Paper · October 2012

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 THE EFFECTS OF THE GLOBAL FINANCIAL CRISIS ON CAPITAL
MARKETS IN CENTRAL AND EASTERN EUROPE

Jasmina Okicic
University of Tuzla, Faculty of Economics
Univerzitetska 8, 75000 Tuzla, Bosnia and Herzegovina
Phone: ++ 38761635940
E-mail: jasmina.okicic@untz.ba

Sonja Remetic Horvath

University of Vienna, Institut für Betriebswirtschaftslehre
Brünnerstraße, 721210 Wien, Östereich
Phone: ++4369919992020
E-mail: sonja.remetic@gmail.com
Abstract

The main goal of this paper is to scientifically examine the impacts of the global financial
crisis on the capital markets in Central and Eastern Europe (CEE). The paper analysis only
capital market integration and correlation in order to identify investment strategies for
potential investors. Capital markets impact economic growth, creation of jobs and raise the
material standard, serving as an important source of finance for companies. They also build
the country’s investment base and are significantly connected to other social and economic
facets. We use publicly available data and information available from stock traded indices
in the CEE region and benchmark these against the major indices of developed economies
such as: CAC-40 (France), S&P 500 (USA), DAX (Germany), NIKKEI 300 (Japan) and
FTSE 100 (United Kingdom). We then use the vector autoregressive model to test the
integration of capital markets, as well as Granger Causality test. We split the sample to
pre-Lehman and post-Lehman subsets in order to compare the pre-crisis to the during crisis
scenarios. The real implications of this paper can be seen in the shaping of investment
strategies of potential investors looking to diversify their portfolios. Limited knowledge of
investors, trust, illiquid assets, institutional environment, transparency, perceived
correlation with global capital markets have a strong influence over the future of stock
market development in the region. The main limitations of this study are to be found in the
shorter available time series of stock indices in newly formed capitalistic economies,
missing data due to the lack of collective records on levels of securities offerings issues as
well as short selling.

Keywords: global financial crisis, capital markets in CEE, vector autoregressive model,
Granger Causality test
JEL classification: G01, G11, C58

1. Introduction

The Euro region is seeing increasingly happening market integration. The introduction of
Euro as a common currency was one of the factors that made this feasible. More recently,
the financial crisis affected global economies in most unpredicted ways: governments
reached for deep amounts of financial aid, stock exchange indices took large reductions,
the once hopeful growth rates in the emerging markets were suddenly swept away. Due to
the ties with the emerging and newly added markets to the European Union Central Europe
was also affected, as a part of emerging markets.
According to Kolb (2011), by any measure, recent financial crisis is one of the most
important economic events of the last century, and compared to all other economic and

849
financial upsets since the Great Depression, it is surely the most significant. The recent
global financial crisis has generated increased interest in investigating how a financial
crisis may affect the global capital markets, especially in terms of their correlation and
integration. A direct benefit for a portfolio investor is rooted in the notion that when
integration of markets is evident, separate markets move together and have high
correlations, so there is less benefit from portfolio diversification across countries (Click &
Plummer, 2005). Integration of capital markets in a post financial crisis setting is of
particular importance, as countries attempt to attract cross-border capital, and reduce
business´s dependence on banks as a source of financing. Integration allows for
deployment of capital into those assets that are most productive, increases the liquidity of
the capital markets and reduces the cost of transacting. Such a setting is particularly
appealing for fund managers looking to diversify their portfolios. For smaller stock
exchanges in emerging economies, edging toward irrelevance, integration may be one way
to overcome problems. The market for a given set of financial instruments and/or services
is fully integrated if all potential market participants with the same relevant characteristics
(Baele, Ferrando, Hördahl, Krylova, & Monnet, 2004, p. 6):
 face a single set of rules when they decide to deal with those financial instruments
and/or services;
 have equal access to the above-mentioned set of financial instruments and/or
services, and
 are treated equally when they are active in the market.

The fundamental principle underlying capital market integration is the law of one
price which indicates that when transaction costs and taxes are not taken into account,
identical securities should carry the same price across all stock markets where such
securities are traded. This means that, if two or more capital markets are integrated, then
assets with identical cash flows should command the same return within both markets.
Moreover, in the absence of barriers generating country risk and exchange rate premium,
financial assets of similar risk and liquidity are expected to achieve similar yields,
irrespective of nationality or location (Marashdeh & Shrestha, 2010, p. 105).
Based on theoretical inferences and empirical evidence on capital market
integration, the main goal of this paper is to scientifically examine the impacts of the
global financial crisis on the capital markets in Central and Eastern Europe (CEE). Since
the goal defines objectives of any research, the main objective of this paper is recent global
recession influence i.e. its impacts to the capital markets in CEE in terms of their
correlation and integration.
By examining correlation and integration movements of the selected capital
markets, we will try to identify diversification opportunities for international investors with
the aim of lowering the investment risk. Having in mind the above said, the central
research hypothesis shall be as follows: Recent global financial crisis, ceteris paribus, has
generated increased correlation and integration between capital markets in CEE.
The paper is organized as follows. After introduction in part one, the part two
delivers a short overview of recent literature that is relevant to the main objective of the
paper. Part three brings description of our research methodology. Part four is the centre of
the paper and contains analysis of the effects of the global financial crisis on capital
markets in CEE, in terms of their integration and correlation. The last part contains some
final remarks and conclusions.

850
2. Literature review

So far, a significant number of scientific research has been conducted on the issue of
capital market integration. In line with it, several measures have also been developed for
evaluating capital market integration. Adam, Jappelli, Menichini, Padula and Pagano
(2002) analyse and apply alternative indicators and monitoring methodologies to measure
the evolution of capital market integration in the European Union. Based on an extensive
review of the literature on financial integration, the authors classify existing indicators of
financial integration into four broad categories: indicators of credit and bond market
integration; indicators of stock market integration; indicators of integration based on
economic decisions of households and firms, and indicators of institutional differences that
may induce financial market segmentation. Babecký, Komárek and Komárková (2007)
investigate the empirical dimension of financial integration among stock markets in four
European Union member states (the Czech Republic, Hungary, Poland and Slovakia) in
comparison with the euro area. They found evidence of stock market integration on both
the national and sectoral levels between the Czech Republic, Hungary, Poland and the euro
area. Bahadur and Neupane (2006), by using Granger causality test, found the empirical
evidence of long-run integration and causality of macroeconomic variables and stock
market indicators even in a small capital market of Nepal. Derado (2009) tried to
determine whether Croatia fulfils the criteria for successful monetary integration. Lee, Huh
and Park (2011) empirically evaluated the degree of linkages among East Asian equity and
bond markets. According to Marashdeh and Shrestha (2010), the results of the empirical
tests suggest that the Gulf Cooperation Council (GCC) stock markets are not fully
integrated and there still exist arbitrage opportunities between some of the markets in the
region. On the other hand, the results show no evidence of cointegration between the GCC
stock markets and developed markets, which implies that international investors can
diversify their portfolio and obtain long-run gains by investing in the GCC markets.
Nikkinen, Pihljak and Rothovius (2011) investigated the financial integration of the
European frontier emerging stock markets (Croatia, Estonia, Romania, Slovakia and
Slovenia) in two time periods: before and during the recent financial crisis. Of the markets
analysed, Croatia, Estonia and Slovenia showed a considerable degree of financial
integration with respect to the world market portfolio and the three largest European stock
markets, whereas the stock market of Slovakia appeared to be segmented. Romania seemed
to be partially integrated. Furthermore, Middelton, Fifield and Power (2008) investigated
the potential benefits from diversifying into eight stock markets of CEE quantified the
importance of country, industry and time factors in CEE equity returns. The findings
suggest that substantial benefits exist from investing in CEE stock markets and that they
accrue more from the geographical spread than from the industrial mix of the equities
included in the portfolio. Maneschiöld (2006) investigated financial integration between
Baltic countries (Estonia, Latvia and Lithuania) and international capital markets. The
results suggest that international investors can obtain diversification benefits given a long-
term investment horizon because of the low degree of integration between the Baltic and
international capital markets. Tayebi and Fakhr (2009) concluded that financial integration
for East Asia-Pacific economies should be seen as a long-term objective. They found
evidence that size of economies approximated by GDP has a positive effect on integrating
financial markets, while the results related to exchange rate and interest rate are
ambiguous. Vizek and Dadić (2006) examined bilateral and multilateral integration of
equity markets of selected CEE countries including Croatia, and German equity market.
Application of the Johansen cointegration procedure indicated existence of multilateral
integration between equity markets of analysed CEE economies, as well as between the
group of CEE equity markets and German equity market. Wong, Agarwal and Du (2005)
empirically investigated the long-run equilibrium relationship and short-run dynamic

851
linkage between the Indian stock market and the stock markets in major developed
countries (USA, UK and Japan) after 1990, by examining the Granger causality
relationship and the pairwise, multiple and fractional cointegrations between the Indian
stock market and the stock markets from these three developed markets. They concluded
that Indian stock market is integrated with mature markets and sensitive to the dynamics in
these markets in a long run. In a short run, both USA and Japan, Granger causes the Indian
stock market but not vice versa.

3. Methodology

Given the fact that the main goal of this paper is to scientifically examine the impacts of
the global financial crisis on the capital markets in CEE, we use publicly available data and
information available from stock traded indices in the CEE region, i.e.: SASX-10 and
BIRS (Bosnia and Herzegovina), SOFIX (Bulgaria), CROBEX (Croatia), PX (Czech
Republic), BUX (Hungary), MONEX20 (Montenegro), WIG20 (Poland), BET (Romania),
BELEX15 (Serbia), SAX (Slovakia) and SBITOP (Slovenia) and benchmark these against
the major indices of developed economies such as: CAC-40 (France, DAX (Germany),
NIKKEI 300 (Japan), FTSE100 (UK) and S&P 500 (USA)255. We split the sample to pre-
Lehman (October 2005 – October 2008) and post-Lehman (October 2008 – December
2011) subsets256 in order to compare the pre-crisis to the during crisis scenarios. Also, for
the purpose of modeling, instead of original index values data, certain transformations will
have to be made. So, if we denote successive index value observations made at time t and
t+1 as Pt and Pt+1, respectively, then continuous compounding transforms an index value
series Pt  into a return series rt  as:
Pt
rt  ln . (1)
Pt 1

According to Juselius (2006) economists frequently formulate an economically

well-specified model as the empirical model and apply statistical methods to estimate its
parameters. On the other hand, statisticians formulate a statistically well-specified model
for the data and analyse the statistical model to answer the economic questions of interest.
In this paper, after examining basic parameters of descriptive statistics and correlation
analysis, we use vector autoregressive (VAR) model to test the integration of capital
markets, as well as Granger Causality test. VAR models are, as suggested by their name,
models where each variable is linearly regressed over its own lagged values as well as over
the lagged values of the other variables (Fabozzi, Focardi & Kolm, 2006, p. 370). In
general, we have K series and each one is related to its own past and the past of each of the
other K-1 series in the group. It is easier to write VAR model using matices. Therefore, for
K = 2, we define following vectors of observations and errors (Makridakis, Weelwright &

255
Real financial time series for all indices observed in this paper are available at: http://www.sase.ba,
http://www.blberza.com, http://www.bse-sofia.bg/, http://zse.hr/, http://www.pse.cz/, http://www.bse.hu/,
http://www.montenegroberza.com, http://gpw.pl/root_en, http://www.bvb.ro/, http://www.belex.rs/eng/,
http://www.bsse.sk/, http://www.ljse.si/, http://finance.yahoo.com/ and http://www.bloomberg.com/
[Accessed 31 December 2011].
256
Lehman Brothers Treasury Co. B.V. ("LBT") was declared bankrupt (in staat van faillissement) by the
Amsterdam District Court on 8 October 2008 with the appointment of Rutger Schimmelpenninck and
Frédéric Verhoeven as bankruptcy trustees (curatoren) (the "Bankruptcy Trustees")
http://www.lehmanbrotherstreasury.com/ [Accessed 31 December 2011]. For more details on this matter see
(Boamah, 2011), (Király, Nagy & Szabó, 2008) and (Sterling, 2009). Also, and in order to keep the data
consistency we used October 2005 as a starting point while the base date for BELEX-15 was 01 October
2005.

852
 Y1,t   e1,t 
Hyndman, 1998, p. 426): Yt   , et    , and group the coefficients into matrices
Y2 ,t  e2 ,t 
    122  11 p 12 p 
1   111 121  ,  2   112  , ,  p    . Then the model can be
 211  221   212  222   21 p  22 p 
written as:

Yt  1Yt 1   2 Yt  2     p Yt  p  et . (2)

In order to estimate a VAR model, the number of lags of endogenous variables has
to be determined first, as the results and hence inferences from estimation can be very
sensitive to the lag choice (Yangru & Zhou, 2010, p. 1391). The appropriate order of the
model can be chosen by minimizing the Akaike’s Information Criterion (AIC):

AIC  2LOGl  2m , (3)

where L is the likelihood of the model and m is the number of parameters estimated. The
main purpose of the Granger causality test (H0: x does not Granger Cause y) is to see how
much of the current y can be explained by past values of y and then to see whether adding
lagged values of x can improve the explanation257. Furthermore “y is said to be Granger
caused by x if x helps in the prediction of y, or equivalently if the coefficients on the lagged
x’s are statistically significant. (…) The statement “x Granger causes y” does not imply that
y is the effect or the result of x. Granger causality measures precedence and information
content but does not itself indicate causality in the more common use of the term” (EViews
7 User’s Guide I, 2009, p. 428).

4. Data and empirical results

Following the above explained methodology, first we will give comparative illustration of
daily stock indices movements (Figure 1) and daily index returns (Figure 2). Then, by
using scientific method, and in order to create a better insight into a specificity of observed
financial time series (stock traded indices in the CEE region and benchmarks), we will
analyse some basic parameters of descriptive statistics for pre-Lehman (Table 1 and Table
2) and post-Lehman period of time (Table 3 and Table 4). Knowing the correlations
between the returns of various national markets is important for the process of allocating
investments among these markets. That is why the next step will be to examine correlation
between selected capital markets for pre-Lehman (Table 5) and post-Lehman period of
time (Table 6). Figure 1 illustrates a typically complex nature of index movement values
for the observed period indicating, also, lack of stationarity. Therefore, for the purpose of
modeling, instead of original index values data certain transformations, i.e. daily returns
are being used.

257
For more details about Granger causality see (Granger, 1969) and (Kirchgässner & Wolters, 2007, pp. 93-
123).

853
Figure 1 A comparative illustration of daily stock exchange indices movements
Index value
50,000

40,000

30,000

20,000

10,000

0
250 500 750 1000 Number of observations

BELEX15 BET BIRS

BUX CAC 40 CROBEX
DAX FTSE100 MONEX20
NIKKEI300 PX S&P500
SASX-10 SAX SOFIX
SBITOP W IG20

Source: Author’s illustration

Figure 2 A comparative illustration of daily index returns

Index returns
.2

.1

.0

-.1

-.2

-.3
250 500 750 1000Number of observations

BELEX15 BET BIRS

BUX CAC40 CROBEX
DAX FTSE100 MONEX20
NIKKEI300 PX S&P500
SASX-10 SAX SBITOP
SOFIX W IG20

Source: Author’s illustration

854
Table 1 Basic descriptive statistics parameters for the pre-Lehman period

Indices:
BELEX15 BET BIRS BUX CROBEX MONEX20 PX SASX-10 SAX SBITOP SOFIX WIG20
Parameters:
Mean -0.000370 -0.000599 -2.16E-05 -0.000390 0.000455 0.000879 -0.000399 -0.000279 -0.000125 0.000507 -0.000407 -0.000211
Median 0.000165 -0.000150 -0.000654 0.000238 0.000558 0.000135 0.000557 -0.001102 0.000000 0.000732 0.000000 8.85E-05
Maximum 0.165042 0.088488 0.079610 0.087572 0.076095 0.096697 0.110931 0.111746 0.062409 0.067631 0.060030 0.055014
Minimum -0.125890 -0.075649 -0.118351 -0.058467 -0.070421 -0.067393 -0.088371 -0.114587 -0.051275 -0.066367 -0.088116 -0.069672
Std. Dev. 0.018952 0.016562 0.015809 0.015070 0.014156 0.018434 0.014476 0.020781 0.008579 0.012542 0.012714 0.016199
Skewness 0.223717 -0.288881 -0.015507 0.053120 -0.328464 0.555726 0.024694 -0.069377 -0.241670 -0.122549 -1.146871 -0.260568
Kurtosis 20.13165 5.443130 11.67912 4.868595 7.178773 6.348695 12.06417 9.502733 12.50688 8.346765 10.61518 4.093525
Jarque-Bera 7134.307 197.2218 1829.847 109.9045 434.6679 384.3653 2598.359 1027.654 2752.410 889.2807 2031.978 46.16132
Probability 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000
Sum -0.215897 -0.449553 -0.012590 -0.293763 0.265452 0.651469 -0.302826 -0.162531 -0.091382 0.377781 -0.313733 -0.159427
Sum Sq. Dev. 0.209033 0.205720 0.145461 0.170776 0.116629 0.251460 0.158832 0.251326 0.053585 0.117026 0.124471 0.197863
Observations 583 751 583 753 583 741 759 583 729 745 771 755

Table 2 Basic descriptive statistics parameters for the pre-Lehman period (benchmarks)

Indices:
CAC40 DAX FTSE100 NIKKEI300 S&P 500
Parameters:
Mean -0.000278 6.14E-05 -0.000234 -0.000401 -0.000275
Median 0.000431 0.001079 0.000000 0.000000 0.000795
Maximum 0.088679 0.057610 0.084691 0.049097 0.052758
Minimum -0.094715 -0.074335 -0.081784 -0.097276 -0.092190
Std. Dev. 0.012880 0.011763 0.012200 0.014127 0.011494
Skewness -0.431951 -0.742364 -0.244150 -0.668153 -1.034185
Kurtosis 11.15736 8.205811 10.01120 6.649944 11.31184
Jarque-Bera 2158.851 935.3143 1566.243 484.7089 2317.108
Probability 0.000000 0.000000 0.000000 0.000000 0.000000
Sum -0.213941 0.047000 -0.177835 -0.308859 -0.208105
Sum Sq. Dev. 0.127573 0.105860 0.113118 0.153481 0.100003
Observations 770 766 761 770 758

855
Table 3 Basic descriptive statistics parameters for the post-Lehman period

Indices:
BELEX15 BET BIRS BUX CROBEX MONEX20 PX SASX-10 SAX SBITOP SOFIX WIG20
Parameters:
Mean -0.000615 0.000103 -0.000561 -3.41E-05 -0.000559 -0.000544 0.000178 -0.000779 -0.000818 -0.000780 -0.000683 0.000361
Median -0.000744 0.000302 -0.000318 0.000336 -5.07E-05 -0.000782 0.000334 -0.000811 0.000000 -0.000427 0.000136 -5.07E-06
Maximum 0.141003 0.105645 0.065265 0.131777 0.147790 0.112857 0.123641 0.087566 0.118803 0.083584 0.072924 0.081548
Minimum -0.103680 -0.131168 -0.047764 -0.126489 -0.151287 -0.097084 -0.161855 -0.105077 -0.148101 -0.084311 -0.113600 -0.084428
Std. Dev. 0.018965 0.022182 0.008189 0.022666 0.019211 0.017941 0.021081 0.014842 0.014381 0.012966 0.017123 0.018868
Skewness 0.336634 -0.555183 0.602461 -0.090170 -0.341786 0.794794 -0.668969 0.078039 -2.071608 -0.733784 -0.822458 -0.190042
Kurtosis 13.89451 8.859016 11.87522 7.848906 17.53735 11.53978 14.42349 11.25495 29.53874 12.99835 10.68498 5.839944
Jarque-Bera 3658.700 1191.293 2446.754 773.0414 6486.431 2521.444 3775.668 2090.505 24199.34 2910.441 1726.839 234.6620
Probability 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000 0.000000
Sum -0.452925 0.082809 -0.410381 -0.026874 -0.411063 -0.436441 0.122056 -0.573377 -0.658557 -0.533807 -0.458439 0.247852
Sum Sq. Dev. 0.264717 0.395122 0.049017 0.404335 0.270878 0.257830 0.303965 0.161915 0.166285 0.114828 0.196447 0.243863
Observations 737 804 732 788 735 802 685 736 805 684 671 686

Table 4 Basic descriptive statistics parameters for the post-Lehman period (benchmarks)

Indices:
CAC40 DAX FTSE100 NIKKEI300 S&P 500
Parameters:
Mean -0.000201 0.000123 0.000234 -0.000383 0.000286
Median 8.27E-06 0.000530 0.000614 0.000000 0.001042
Maximum 0.105946 0.107975 0.093842 0.129512 0.109572
Minimum -0.080479 -0.072703 -0.092646 -0.102687 -0.094695
Std. Dev. 0.019130 0.018703 0.015974 0.017574 0.018160
Skewness 0.240034 0.263567 -0.069837 -0.316244 -0.102686
Kurtosis 7.265227 7.677906 8.570893 12.12469 9.162592
Jarque-Bera 637.1159 766.3901 1055.848 2830.500 1291.086
Probability 0.000000 0.000000 0.000000 0.000000 0.000000
Sum -0.166491 0.101954 0.190622 -0.311011 0.232982
Sum Sq. Dev. 0.303374 0.289993 0.207971 0.250487 0.268441
Observations 830 830 816 812 815

856
 Based on the analysis of results258 given in previous tables, it can be concluded that,
for the pre-Lehman period, only BELEX-15, BUX, MONEX and PX had positive
skewness259. Similar, in the post-Lehman period only BELEX-15, BIRS, MONEX20,
SASX-10, CAC40 and DAX had positive skewness.
According to Grigoletto and Lisi (2009), and from a financial perspective,
skewness is crucial since it may itself be considered as a measure of risk.
In line with it, Kim and White (2004) stressed that, if investors prefer right-skewed
portfolios then, for equal variance, one should expect a “skew premium” to reward
investors willing to invest in left-skewed portfolios.
Negative skewness in majority of analysed indices in the pre- and post-Lehman
period indicates that there was a substantial probability of a big negative return.
Furthermore, kurtosis points out leptokurtosis for all selected variables.
Leptokurtosis indicates that small changes are less frequent than in a normal distribution,
but extreme events such as large price moves are more likely to happen and are potentially
much larger than in a normal distribution.
Also, and based on the Jarque-Bera test we reject the null hypothesis (H0: the data
are from a normal distribution) at the 5% significance level.
Due to Augmented Dickey-Fuller test of unit roots, for the pre- and post-Lehman
period of time, and having in mind that statistics of the test in its absolute form is lower
than theoretically critical values for all three significance levels (1%, 5% and 10%), we
also reject null hypothesis (H0: the series contains a unit root).
Correlation between two variables indicates the level to which those variables move
together. Lack of correlation between international markets indicates diversification
potential from a portfolio perspective.
Correlation matrix, for the pre- and post-Lehman period of time, is presented next
in Table 5 and Table 6, respectively.
Based on the analysis of the correlation matrix presented in Table 5, it can be
concluded that, for the pre-Lehman period, positive significant260 correlation, in terms of
movement of all indices, existed.
This conclusion is very important especially form investor’s point of view, while
effects of portfolio diversification may be questioned.
On the other hand, and based on the analysis of the correlation matrix presented in
Table 6, it can be concluded that, for the post-Lehman period international market
correlations increased.
Therefore, it can be concluded that recent global financial crisis, ceteris paribus,
has increased a level of capital market correlation.

258
All results in this research were generated by: SPSS® Student Version 11.0 for Windows®, ©SPSS Inc.
2002, Quantitative Micro Software EViews 7.1 Enterprise Edition 2010 and STATISTICA 7.0 Copyright©
StataSoft, Inc. 1984-2004.
259
The skewness of a symmetric distribution, such as the normal distribution, is zero. Positive skewness
means that the distribution has a long right tail and negative skewness implies that the distribution has a long
left tail. In other words, negative skewness means there is a substantial probability of a big negative return.
Positive skewness means that there is a greater-than-normal probability of a big positive return.
260
At the 1% and 5% significance level.

857
Table 5 Daily returns correlation matrix for the pre-Lehman period

SASX-10 BIRS MONEX20 CROBEX BELEX15 BUX SBITOP BET SAX WIG20 PX SOFIX CAC40 DAX FTSE100 NIKKEI300 S&P500
SASX-10 1 .351** .202** .202** .137** .050 .190** .104* -.021 .078 .135** .228** .049 .089* .057 .093* .029
*
BIRS 1 .055 .093 .054 -.031 .103* .001 -.020 -.039 .014 .138** -.017 .009 -.004 .050 -.030
MONEX20 1 .252** .165** .094* .138** .139** .016 .072 .065 .161** .072 .113* .100* .046 .034
CROBEX 1 .214** .371** .369** .120** .020 .371** .437** .315** **
.423 .422 **
.438 **
.371 **
.215**
BELEX15 1 .091* .077 .151** -.006 .021 .019 .211** .044 .058 .030 .049 -.027
BUX 1 .255** .119** .029 .695** .653** .175** .597** .575** .587** .383** .329**
SBITOP 1 .089* .043 .284** .358** .376** .266** .292** .238** .414** .126**
BET 1 -.008 .127** .060 .207** -.009 -.005 -.003 .012 -.025
SAX 1 .051 .075 .050 .036 .053 .027 .042 .127**
WIG20 1 .684** .195** **
.607 .600 **
.638 **
.395 **
.413**
PX 1 .279** .698** .677** .718** .527** .385**
SOFIX 1 .171** .213** .209** .338** .038
** ** **
CAC40 1 .932 .934 .442 .565**
** **
DAX 1 .872 .452 .546**
FTSE100 1 .426** .565**
NIKKEI300 1 .173**
S&P500 1
**. Correlation is significant at the 0.01 level (2-tailed)
*. Correlation is significant at the 0.05 level (2-tailed).

858
Table 6 Daily returns correlation matrix for the Post-Lehman period

SASX-10 BIRS MONEX20 CROBEX BELEX15 BUX SBITOP BET SAX WIG20 PX SOFIX CAC40 DAX FTSE100 NIKKEI300 S&P500
SASX-10 1 .178** .185** .228** .137** .042 .145** .023 .054 .097* .123** .296** .104* .085* .081* .170** .110**
** **
BIRS 1 .255 .231 .159** .175** .329** .123** -.033 .176** ** **
.157 .220 .159 .143 ** **
.152 **
.240** .053
MONEX20 1 .305** .336** .155** .345** .048 .015 .121** .199** .217** .137** .123** .170** .203** .100*
CROBEX 1 .111** .508** .527** .064 .082* .546** .640** .488** .592** .575** .610** .493** .514**
BELEX15 1 -.028 .177** .175** -.024 -.027 -.012 .075 -.011 -.040 -.013 -.034 -.070
BUX 1 .431** .069 .036 .674** .666** .365** .693** .667** .675** .439** .530**
SBITOP 1 .013 .051 .372** .505** .485** .440** .413** .454** .568** .355**
BET 1 .002 .018 .005 .095* -.013 -.004 -.023 .029 .037
SAX 1 .091* .078 .118 **
.054 .042 .035 .088* .060
** ** ** ** **
WIG20 1 .704 .384 .700 .689 .674 .427** .503**
PX 1 .492** .659** .634** .642** .550** .518**
SOFIX 1 .387** .380** .402** .535** .326**
CAC40 1 .923** .933** .478** .689**
**
DAX 1 .875 .435** .730**
FTSE100 1 .480** .690**
NIKKEI300 1 .306**
S&P500 1

**. Correlation is significant at the 0.01 level (2-tailed)

*. Correlation is significant at the 0.05 level (2-tailed).

859
 According to Baele et al. (2004) three widely accepted interrelated benefits of
financial integration are: more opportunities for risk sharing and risk diversification, better
allocation of capital among investment opportunities, and potential for higher growth.
As a scientific tool for testing capital market integration we used VAR model in
combination with Granger causality test.
As we mentioned earlier, VAR models are models where each variable is linearly
regressed over its own lagged values as well as over the lagged values of the other
variables.
By using AIC, for the pre-Lehman period VAR(1) model was selected, and for the
post-Lehman period VAR(3) model was selected.
We estimated parameters of the model261 for all selected variables, and found out
that, according to the coefficient of determination (R2), for the pre-Lehman period
maximum explained variability was evident for variable NIKKEI300 (21.70%) and for the
post-Lehman period for variable BET (42.18%).
In general, and based on comparative analysis of the maximum explained
variability, we found that recent global financial crisis, ceteris paribus, has increased
explained variability measured by the coefficient of determination in case of all variables
(Table 7).
This implies that due to the exogenous shock, such as recent global financial crisis,
integration of the selected markets increases

Table 7 Maximum explained variability in VAR model

Maximum Explained Variability measured

by
Index Change
the coefficient of determination (R2 )
Pre-Lehman period Post-Lehman period
BELEX15 12.53% 36.82% Increase
BET 7.65% 42.18% Increase
BIRS 9.39% 15.04% Increase
BUX 12.46% 18.35% Increase
CAC40 14.50% 21.27% Increase
CROBEX 9.73% 22.40% Increase
DAX 11.61% 18.70% Increase
FTSE100 14.57% 24.71% Increase
MONEX20 13.27% 22.33% Increase
NIKKEI300 21.70% 40.71% Increase
PX 11.42% 24.87% Increase
S&P500 7.77% 22.14% Increase
SAX 3.15% 9.65% Increase
SASX-10 10.21% 28.33% Increase
SBITOP 13.42% 20.71% Increase
SOFIX 10.44% 28.90% Increase
WIG20 6.92% 19.22% Increase

261
Due to their extensive volume, estimated parameters in VAR model and their statistical significance, as
well as other relevant statistical results, cannot be presented in detail in the paper but these data are available
upon request.

860
 Results of Granger causality test262 for the pre- and post-Lehman period of time are
given in Table 8.
Table 8 Granger Causality Test: Pre-Lehman and Post-Lehman period
Equation
Pre-Lehman period
NIKKEI300 Granger
BELEX15 Cause BELEX15; S&P500
Granger Cause BELEX15
BET SAX Granger Cause BET
BUX Granger Cause
BIRS; DAX Granger
Cause BIRS; FTSE100
BIRS Granger Cause BIRS;
MONEX20 Granger
Cause BIRS; S&P500
Granger Cause BIRS
S&P500 Granger Cause
BUX
BUX
SAX Granger Cause
CAC40
CAC40
S&P500 Granger Cause
CROBEX
CROBEX
BUX Granger Cause
DAX DAX; S&P500 Granger
Cause DAX
S&P500 Granger Cause
FTSE100
FTSE100
262
Due to their extensive volume, the results of Granger causality test (F-statistics and probability, at the 5%
significance level, for all variables) cannot be presented in detail in this paper but are available upon request.
263
Null hypothesis (H0: x does not Granger Cause y) was rejected at the 5% significance level.
Granger Causality Test263
Post-Lehman period
BET Granger Cause BELEX15; BIRS Granger Cause
BELEX15; BUX Granger Cause BELEX15;CAC40 Granger
Cause BELEX15; CROBEX Granger Cause BELEX15; DAX
Granger Cause BELEX15; FTSE100 Granger Cause
BELEX15; MONEX20 Granger Cause BELEX15; NIKKEI300
Granger Cause BELEX15; PX Granger Cause BELEX15;
SASX-10 Granger Cause BELEX15; S&P500 Granger Cause
BELEX15; SAX Granger Cause BELEX15; SBITOP Granger
Cause BELEX15; SOFIX Granger Cause BELEX15; WIG20
Granger Cause BELEX15
BELEX15 Granger Cause BET; BIRS Granger Cause BET;
BUX Granger Cause BET; CAC40 Granger Cause BET;
CROBEX Granger Cause BET; DAX Granger Cause BET;
FTSE100 Granger Cause BET; MONEX20 Granger Cause
BET; NIKKEI300 Granger Cause BET; PX Granger Cause
BET; SASX-10 Granger Cause BET; S&P500 Granger Cause
BET; SAX Granger Cause BET; SBITOP Granger Cause BET;
SOFIX Granger Cause BET; WIG20 Granger Cause BET
BELEX15 Granger Cause BIRS; BUX Granger Cause
BIRS;CROBEX Granger Cause BIRS; MONEX20 Granger
Cause BIRS; PX Granger Cause BIRS; S&P500 Granger
Cause BIRS; SOFIX Granger Cause BIRS; WIG20 Granger
Cause BIRS
CROBEX Granger Cause BUX; NIKKEI300 Granger Cause
BUX; PX Granger Cause BUX; SASX-10 Granger Cause BUX;
S&P500 Granger Cause BUX; SBITOP Granger Cause BUX;
SOFIX Granger Cause BUX
DAX Granger Cause CAC40; FTSE100 Granger Cause
CAC40; NIKKEI300 Granger Cause CAC40; PX Granger
Cause CAC40; S&P500 Granger Cause CAC40; SBITOP
Granger Cause CAC40
MONEX20 Granger Cause CROBEX; NIKKEI300 Granger
Cause CROBEX; PX Granger Cause CROBEX; SASX-10
Granger Cause CROBEX; S&P500 Granger Cause CROBEX;
SBITOP Granger Cause CROBEX
CROBEX Granger Cause DAX; NIKKEI300 Granger Cause
DAX; PX Granger Cause DAX; S&P500 Granger Cause
DAX; SBITOP Granger Cause DAX; SOFIX Granger Cause
DAX; WIG20 Granger Cause DAX
BIRS Granger Cause FTSE100; CAC40 Granger Cause
FTSE100; MONEX20 Granger Cause FTSE100; NIKKEI300
Granger Cause FTSE100; PX Granger Cause FTSE100; SASX-
10 Granger Cause FTSE100; S&P500 Granger Cause
FTSE100; SBITOP Granger Cause FTSE100; SOFIX Granger
Cause FTSE100;
861
 BIRS Granger Cause
MONEX20; CROBEX
Granger Cause
BUX Granger Cause MONEX20; CROBEX Granger Cause
MONEX20; S&P500
MONEX20 MONEX20; PX Granger Cause MONEX20; SAX Granger
Granger Cause
Cause MONEX20; WIG20 Granger Cause MONEX20
MONEX20; SASX-10
Granger Cause
MONEX20
BUX Granger Cause
NIKKEI300; DAX BET Granger Cause NIKKEI300; BUX Granger Cause
Granger Cause NIKKEI300; CAC40 Granger Cause NIKKEI300; CROBEX
NIKKEI300; FTSE100 Granger Cause NIKKEI300; DAX Granger Cause NIKKEI300;
NIKKEI300 Granger Cause FTSE100 Granger Cause NIKKEI300; PX Granger Cause
NIKKEI300; PX Granger NIKKEI300; S&P500 Granger Cause NIKKEI300; SBITOP
Cause NIKKEI300; Granger Cause NIKKEI300; SOFIX Granger Cause
S&P500 Granger Cause NIKKEI300; WIG20 Granger Cause NIKKEI300
NIKKEI300
BELEX15 Granger Cause PX; BIRS Granger Cause PX; BUX
Granger Cause PX; CAC40 Granger Cause PX; CROBEX
S&P500 Granger Cause Granger Cause PX; DAX Granger Cause PX; FTSE100
PX
PX Granger Cause PX; NIKKEI300 Granger Cause PX; SASX-10
Granger Cause PX; S&P500 Granger Cause PX; SBITOP
Granger Cause PX; SOFIX Granger Cause PX
BELEX15 Granger Cause S&P500; BET Granger Cause
SASX-10 Granger Cause S&P500; FTSE100 Granger Cause S&P500; NIKKEI300
S&P500
S&P500 Granger Cause S&P500; SASX-10 Granger Cause S&P500;
SBITOP Granger Cause S&P500
SAX DAX Granger Cause SAX BET Granger Cause SAX
BELEX15 Granger Cause SASX-10; BET Granger Cause
SASX-10; BIRS Granger Cause SASX-10; CAC40 Granger
Cause SASX-10; CROBEX Granger Cause SASX-10; DAX
SOFIX Granger Cause
SASX-10 Granger Cause SASX-10; FTSE100 Granger Cause SASX-10;
SASX-10
MONEX20 Granger Cause SASX-10; S&P500 Granger Cause
SASX-10; SBITOP Granger Cause SASX-10; SOFIX Granger
Cause SASX-10
BET Granger Cause SBITOP; CAC40 Granger Cause
SBITOP; CROBEX Granger Cause SBITOP; DAX Granger
Cause SBITOP; FTSE100 Granger Cause SBITOP; PX
SBITOP -
Granger Cause SBITOP; SASX-10 Granger Cause SBITOP;
S&P500 Granger Cause SBITOP; SOFIX Granger Cause
SBITOP; WIG20 Granger Cause SBITOP
CROBEX Granger Cause
SOFIX; DAX Granger
BET Granger Cause SOFIX; FTSE100 Granger Cause SOFIX;
Cause SOFIX; FTSE100
NIKKEI300 Granger Cause SOFIX; PX Granger Cause
SOFIX Granger Cause SOFIX;
SOFIX; SASX-10 Granger Cause SOFIX; S&P500 Granger
PX Granger Cause
Cause SOFIX; SBITOP Granger Cause SOFIX
SOFIX; S&P500 Granger
Cause SOFIX
BET Granger Cause WIG20; DAX Granger Cause WIG20;
MONEX20 Granger Cause WIG20; NIKKEI300 Granger
WIG20 - Cause WIG20; PX Granger Cause WIG20; SASX-10 Granger
Cause WIG20; S&P500 Granger Cause WIG20; SBITOP
Granger Cause WIG20

Based on the results presented in Table 8 it can be concluded that in the pre-
Lehman period of time, null hypothesis (H0: x does not Granger Cause y) was rejected, at
the 5% significance level, less times than in the post-Lehman period of time.
Furthermore, this means that in the pre-Lehman period, selected independent
variables (x) had less power in explaining the current value of dependant variable (y).

862
 However, and due to the fact that in the post-Lehman period null hypothesis was
rejected at the 5% significance level in more cases than in the pre-Lehman period of time,
current value of dependent variable (y) could have been better explained by adding also
lagged values of independent variables (x).
Therefore, and based on the above presented correlation analysis, VAR model and
Granger causality test, it can be concluded that recent global financial crisis, ceteris
paribus, has generated increased correlation and integration between capital markets in
CEE.

5. Conclusion

Recent global financial crisis is probably one of the most important economic events of the
last century. Therefore, the main goal of this paper was to scientifically examine the
impacts of the global financial crisis on the capital markets in CEE, in terms of their
correlation and integration.
Investigating capital market integration, together with its efficiency and correlation
as well, is crucial when exploring possible diversification benefits for investors.
By using scientific method, we found that recent global financial crisis, ceteris
paribus, has generated increased correlation and integration between capital markets in
CEE which indicates lower possibilities for efficient international portfolio diversification.
We also found that, in pre- and post-Lehman period, majority of analysed indices
had negative skewness which indicates that there was a substantial probability of a big
negative return.
In the end we conclude that these results could be good starting point in decision
making for those who are planning to invest in the CEE capital markets.
On the other hand, and on a policy level, the initiatives towards capital market
integration in CEE should be supported, which will reduce benefits of diversification for
portfolio investors; however other benefits will be preserved.

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