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Broker–dealer
Broker-dealer leverage volatility leverage
and the US stock prices volatility
Khandokar Istiak
Department of Economics, Finance and Real Estate,
University of South Alabama, Mobile, Alabama, USA 1
Received 29 October 2020
Revised 1 June 2021
Abstract Accepted 2 June 2021

Purpose – Broker-dealer leverage volatility increases during booms and crisis periods, but its impact on
stock prices is relatively unexplored. This paper aims to investigate whether broker-dealer leverage volatility
is a key driver for stock prices.
Design/methodology/approach – This paper collects the US quarterly data of broker-dealer book
leverage and three leading stock market indicators (S&P 500, DJIA and Nasdaq) for the period of 1967–2018.
The research uses a multivariate GARCH-in-mean VAR to examine the impact of leverage volatility on each
of the stock market indicators. A split-sample analysis (pre-1990 and post-1990) has also been performed to
show the robustness of the result.
Findings – The research finds that broker-dealer leverage volatility does not have any significant
impact on stock prices.
Originality/value – Broker-dealers are important financial intermediaries, and there is a huge literature
exploring the relationship between their leverage and asset prices. But, the relationship between broker-dealer
leverage volatility and asset prices is not explored yet. This study fills the gap and provides the first evidence
that broker-dealer leverage volatility does not play any major role in the theory of stock pricing. The research
proposes that the stock holding decisions of the investors should depend only on the first moment of leverage
and not on the second moment of leverage. The study concludes that high broker-dealer leverage volatility is
not a sinister signal for the US stock market.
Keywords Volatility, Leverage, Multivariate GARCH-in-mean VAR
Paper type Research paper

1. Introduction
The current literature on intermediary based asset pricing models assumes that
intermediaries are the marginal price maker in different asset classes. This literature
has two branches. The first branch argues that the marginal utility of the
intermediaries is high when their borrowing constraints bind (Adrian and
Boyarchenko, 2015). On the other hand, the second branch argues that the marginal
utility of the intermediaries is high when their net worth is low (He and Krishnamurthy,
2013). The current paper falls within the first branch and closely related to Adrian et al.
(2014), who argue that broker-dealer leverage shocks are critical pricing factors across
various asset classes.
There is a growing literature indicating that volatility is an important factor in
macroeconomics. Ramey and Valery (1995), Gilchrist and Williams (2005), Justiniano
and Primiceri (2008), Gilchrist et al. (2014), Basu and Bundick (2017) and Fernandez-
Villaverde and Rubio-Ramirez (2013) discuss the relationship between volatility and
output. Bloom (2009) analyzes the effect of time-varying volatility on investment. In
Studies in Economics and Finance
general, the literature finds that volatility disaffects real output and investment. Vol. 39 No. 1, 2022
pp. 1-19
© Emerald Publishing Limited
1086-7376
JEL classification – D81, E37, G12 DOI 10.1108/SEF-10-2020-0440
SEF Volatility also has a critical role in the theory of asset pricing. Ang et al. (2006) find that
39,1 index option implied volatility or market volatility is a significant cross-sectional pricing
factor. Tédongap (2015) show that consumption volatility is the key factor for explaining
major asset pricing anomalies across risk horizons. Kandel and Stambaugh (1990) and
Bansal et al. (2005) show that the volatility of aggregate consumption is negatively related
with the market price-dividend ratio. Bansal and Yaron (2004) also find that an increase in
2 aggregate volatility lowers asset prices, see also Bansal et al. (2014). Bonomo et al. (2011) and
Beeler and Campbell (2012) suggest that the consumption volatility shock has a considerable
impact on asset prices.
This paper investigates whether broker-dealer leverage volatility is a key driver for asset
prices, when leverage is the ratio of asset to equity and asset prices are represented by stock
market indicators. The existing literature (Adrian et al., 2014; Adrian and Shin, 2010; Istiak
and Serletis, 2016, 2017; Serletis et al., 2013, among others) discusses the positive
relationship between broker-dealer leverage and asset prices. The current literature does not
investigate the impact of broker-dealer leverage volatility on stock prices. This study
extends the literature by exploring whether the existence of leverage volatility can affect the
relationship between broker-dealer leverage and stock prices. To the best of found
knowledge, this paper is the first one that analyzes the linkages between prominent stock
market indices and broker-dealer book leverage volatility in the context of a GARCH-in-
mean VAR model.
This research is based on the volatility of broker-dealers only because, among the
different types of financial institutions, broker-dealers attract special attention in the
literature. They purchase either equity or debt securities from the corporation and resell
the securities to individual and institutional investors. See Carleton et al. (1998) regarding
the activities of broker-dealers to assist corporations in raising funds. In a recent paper,
Adrian et al. (2014) show that the broker-dealers are market makers and their leverage
contains a strong predictive power for stock and bond returns. Adrian et al. (2014) find that
broker-dealer leverage shock is a critical pricing factor in cross-sectional performance, but
the authors do not analyze the impact of broker-dealer leverage volatility on asset prices in
the context of time series dimension.
Whether the broker-dealer leverage volatility affects stock prices is an interesting
research question. The volatility of broker-dealer leverage may affect stock prices through
several channels. First, according to the Board of Governors of the Federal Reserve System,
the total financial assets of US broker-dealers was 3.358tn in 2018. As broker-dealers hold a
big share of assets in the financial market, volatility in their leverage (or volatility in their
asset to equity ratio) may create uncertainty in the financial market. So, the bad investment
may increase in the market, which eventually may reduce stock prices. Second, the initial
fall in stock prices originated by leverage volatility reduces the value of portfolios held by
broker-dealers, and they may start selling stocks to avoid losses. This incident may reduce
the stock prices further. Third, higher broker-dealer leverage volatility can make broker-
dealers afraid of investing more money in the market. This indicates that they miss out on
the opportunities of high trading on good days, which may prevent the stock prices to go up.
Although broker-dealer leverage volatility may influence the stock prices in several
channels, there is limited research in the literature exploring the empirical validity of this
relationship. This paper tries to fill this gap.
This research follows Adrian et al. (2014), Sekkel (2015), Istiak and Serletis (2017), Serletis
A
and Istiak (2017), Istiak (2019) and Istiak and Serletis (2020) and define leverage as A
L ,
where A denotes total financial assets and L total financial liabilities other than net worth.
The paper uses S&P 500, Dow Jones Industrial Average (DJIA) and Nasdaq as proxies for
stock prices. The finding of this paper demonstrates that leverage volatility does not have Broker–dealer
any significant impact on stock prices. So, the nature of the positive relationship between leverage
broker-dealer leverage and asset prices (as mentioned in Adrian and Shin, 2010; Istiak and
Serletis, 2016, 2017; and Serletis et al., 2013) depends on the first moment of leverage and is
volatility
independent of the second moment of leverage. This paper concludes that broker-dealer
leverage volatility does not play an important role in the theory of stock pricing.
The paper is organized as follows. Section 2 explains the theoretical foundations behind
the potential relationship between broker-dealer leverage volatility and asset (stock) prices. 3
Section 3 discusses the data, model and empirical findings. Section 4 examines robustness
checks and Section 5 concludes with a discussion about the implications of the results.

2. Theoretical relationship between broker-dealer leverage volatility and

asset (stock) prices
Broker-dealers use leverage to multiply their purchasing power in the stock market. They
borrow money against their equity and invest the borrowed funds to increase returns from
an investment. Broker-dealer leverage indicates the asset to equity ratio of broker-dealers in
the US financial market. If equity or net worth equals total financial assets (A) minus total
financial liabilities (L), the leverage of broker-dealers can be calculated as l = A
L A
. The
volatility formula of Gujarati (2004, p. 857) is used to represent leverage volatility. If the
leverage is lt for the period of time t, the growth rate of leverage at time t is ln(lt/lt
1). Now if l
is the average of all the growth rates, the volatility of leverage for time t is defined as
100[ln(lt/lt
1)-l 2.
Broker-dealer leverage volatility varies with the macroeconomy. Figure 1 represents the
level of broker-dealer book leverage (on the left axis) and its volatility (on the right axis). The
shaded areas represent recessions. The volatility spikes are high in most recessions and also
in some good periods.
According to Adrian and Shin (2010), Istiak and Serletis (2016, 2017), among others, there
is a strong positive relationship between changes in total assets and changes in broker-
dealer leverage indicating that broker-dealer leverage is procyclical. Moreover, according to
the standard risk-return trade-off theory (Poterba and Summers, 1986; French et al., 1987;
Campbell and Hentschel, 1992; Bollerslev et al., 2012 for the empirical evidence of the risk-
return trade-off), it is expected that higher leverage volatility is associated with a higher risk
premium. So, higher broker-dealer leverage volatility may have a negative impact on stock
prices in booms as well as in recessions. Thus, when leverage increases in booms, the
increase in stock prices (through the procyclical channel) may be offset by the negative
effect (through the risk-return trade-off channel) originating from higher leverage volatility.
On the other hand, when leverage decreases in recessions, the decrease in stock prices
(through the procyclical channel) may be exacerbated by the negative effect (through the
risk-return trade-off channel) originating from higher leverage volatility. So, there is a
possibility that broker-dealer leverage volatility may affect stock prices, but it is not
empirically tested so far. This paper investigates this issue (for the first time) by using a
GARCH-in-mean structural VAR model.

3. The data, model and empirical evidence

The research uses quarterly data on broker-dealer leverage from the Board of Governors of
the Federal Reserve System, over the period from 1967:1 to 2018:1. S&P 500, DJIA and
Nasdaq index are used as proxies for stock prices in the USA. Following Istiak and Serletis
(2017) and Serletis and Istiak (2018), stock market indices are divided by the CRB BLS spot
SEF
39,1

Figure 1.
Broker-dealer
leverage and its
volatility for the
period of 1967–2018

market price index to get the values of stock prices in real terms. The stock market indices
data are collected from the FRED website maintained by the Federal Reserve Bank of St.
Louis. The CRB BLS spot market price index series is from the Commodity Index Report
published by the Commodity Research Bureau (CRB).
The paper models the relationship between stock prices and broker-dealer leverage
volatility by using a structural VAR that is modified to accommodate GARCH-in-mean
errors, as detailed in Elder (1995, 2004), Elder and Serletis (2010), Serletis and Rahman
(2009), Rahman and Serletis (2009a, 2009b, 2011, 2012), among others. These papers explore
the relationship between different economic and financial variables under volatility by using
a GARCH-in-mean VAR model. Following their pffiffiffiffiffiapproach, this research introduces volatility
of broker-dealer leverage by including the ht term in the GARCH-in-mean VAR model.
This paper specifies the vector zt to include the changes in the log of broker-dealer leverage
(lt) and the changes in each of the log of real stock indices (st). So, zt = (Dlnlt Dlnst)/. It is found
that both variables under the zt vector are stationary. The stationary test result is not shown
here for brevity, but are available upon request. The conditional mean model is:

X
p
pffiffiffiffiffi
Bzt ¼ C þ Cj z t
j þ K ht þ e t (1)
j¼1

 
hll;t hls;t
etjIt
1iid N(0, Ht), Ht =
hsl;t hss;t
where
    !    
Broker–dealer
1 0 el;t Yj11 Yj12 l 11 0 hll;t leverage
B= , et = , Cj = , K = , h = and It
1
b 1 es;t Yj21 Yj22 l 21 0 t
hss;t volatility
denotes the information set at time (t
1), which includes variablespdated ffiffiffiffiffi (t-1) and
earlier. The paper allows the vector of conditional standard deviations, ht , to affect the
conditional mean. The paper also specifies the following equation for the conditional
covariance matrix Ht: 5

diagðH t Þ ¼DþF diagðe t
1 e 0t
1 Þ þGdiagðH t
1 Þ (2)

where diag is the operator that extracts the diagonal from a square matrix. Given that the
research explores the impact of leverage volatility on stock prices, the first column of K
matrix is nonzero. The second column of K matrix is kept zero because the research does not
explore the impact of stock prices volatility on leverage. The structure of K matrix and other
assumptions of this GARCH-in-mean VAR model are consistent with the models of Elder
and Serletis (2010) and Chang and Serletis (2018). p Asffiffiffiffiffiffican
ffi be seen from equation (1), the
model allows contemporaneous leverage volatility, hll;t , to affect the stock market indices
by the coefficient l 21, which is the focal point of this paper.
The system is identified by assuming that the diagonal elements of the contemporaneous
coefficient matrix B are unity, that B is lower triangular, and that the structural
disturbances are contemporaneously uncorrelated (that is, the conditional covariance
matrix, Ht, is diagonal). The lower triangular pattern of B indicates that broker-dealer
leverage affects stock prices contemporaneously (this is consistent with the idea that
financial price indices response very quickly to any changes in the market). The bivariate
GARCH-in-mean VAR, equations (1) and (2), is estimated by full information maximum
likelihood (FIML) method. See Elder (2004) and Elder and Serletis (2010) for a full discussion
of estimating the model and impulse responses.
The model uses the AIC criteria to find the lag length (p) of the model for each of the
stock prices. The autocorrelation of the residuals is checked by the Portmanteau test,
and it is found that the model is free from serial correlation. The coefficient estimates of
the K matrix for each of the stock prices are provided in Table 1. The table represents
that the coefficient values of l 21 are statistically insignificant for all measures of stock
prices indicating that broker-dealer leverage volatility has no significant impact on
stock prices for the whole data set.

Table 1.
l 11 (Impact of leverage l 21 (Impact of leverage volatility Coefficient estimates of
Variables volatility on leverage) on stock prices) the K matrix of the
Leverage and S&P 500
0.150 (p = 0.348) 0.009 (p = 0.934) GARCH-in-mean
Leverage and DJIA
0.024 (p = 0.881)
0.224 (p = 0.214) model, 1967Q1-2018Q1.
Leverage and Nasdaq
0.609 (p = 0.000)
0.020 (p = 0.897) The table examines
whether broker-dealer
Note: p < 0.05 indicates the relevant coefficient is significant at a 5% significant level. The p-values of the leverage volatility can
second column represent that broker-dealer leverage volatility has a significantly negative impact on significantly affect
leverage when equation (1) contains leverage and Nasdaq index. For the other two cases, broker-dealer
leverage volatility has no significant impact on leverage. The high p-values in the third column of Table 1 leverage and stock
indicate that broker-dealer leverage volatility does not have any significant impact on the stock market prices for the full
indicators sample period
SEF Figure 2 represents the simulated responses of the stock indices to a positive and negative
39,1 leverage shock equal to the quarterly one standard deviation of the change in the broker-
dealer leverage in the GARCH-in-mean VAR. The shocks are normalized in the first quarter
and the impulse responses are graphed with probability bands represented by 0.16 and 0.84
fractiles (equivalent to 90% confidence interval). The impulse responses are calculated
according to the Monte Carlo method described in Doan (2004). The responses in Figure 2
6 indicate that the stock indices go up (down) due to an unexpected increase (decrease) in the
broker-dealer leverage in the GARCH-in-mean VAR model. This finding is consistent with

Figure 2.
Responses of S&P
500, DJIA and
Nasdaq to a positive
and negative leverage
shock in the GARCH-
in-mean VAR,
1967Q1-2018Q1
Adrian and Shin (2010) and Istiak and Serletis (2016, 2017) indicating that there is a positive Broker–dealer
relationship between broker-dealer leverage and asset prices. leverage
The variance decomposition analysis is performed to examine how much of the forecast
error variance of the broker-dealer leverage and each of the stock prices can be explained
volatility
by their shocks. The results are shown in Table 2. The table shows that with the existence
of leverage volatility, in a GARCH-in-mean VAR model with leverage and S&P 500, a
7
Quarters Leverage Stock prices

Decomposition of variance for Broker-dealer leverage and S&P 500

Decomposition of leverage
1 100 0.000
2 99.310 0.690
4 98.884 1.116
8 98.134 1.866
10 98.005 1.995
Decomposition of S&P 500
1 2.870 97.130
2 4.218 95.782
4 4.859 95.141
8 5.570 94.430
10 5.670 94.330
Decomposition of variance for Broker-dealer leverage and DJIA
Decomposition of leverage
1 100 0.000
2 99.574 0.426
4 98.631 1.369
8 97.430 2.570
10 97.314 2.686
Decomposition of DJIA
1 1.940 98.060
2 2.888 97.112
4 2.908 97.092
8 3.496 96.504
10 3.583 96.417
Decomposition of variance for Broker-dealer leverage and Nasdaq
Decomposition of leverage
1 100 0.000
2 99.905 0.095
4 98.538 1.462
8 97.447 2.553
10 97.312 2.688
Decomposition of Nasdaq
1 0.226 99.774
2 1.172 98.828 Table 2.
4 1.959 98.041 Decomposition of
8 2.225 97.775
10 2.252 97.748
variance from the
VAR of the GARCH-
Note: The table examines how much (%) of the forecast error variance of each of the broker-dealer leverage in-mean model,
and stock prices can be explained by their shocks 1967Q1-2018Q1
SEF broker-dealer leverage shock can explain a very large portion of the variance of leverage
39,1 (98.005% at the end of the 10th quarter). But the shock can explain a very small portion of
the variance of S&P 500 (only 5.67% at the end of the 10th quarter). Similarly, a broker-
dealer leverage shock can explain a very small portion of the variance of DJIA (only 3.583%
at the end of the 10th quarter) and Nasdaq (only 2.252% at the end of the 10th quarter),
respectively. The results clearly show that a broker-dealer leverage shock can explain a very
8 small proportion of the variance of the stock prices.
Next, the paper represents the responses of the stock indices to a positive and
negative leverage shock from the GARCH-in-mean VAR and the same responses from

Figure 3.
Responses of S&P
500 to a positive and
negative leverage
shock in the GARCH-
in-mean VAR (solid
line) and in the
standard structural
VAR (long dotted
line) with the
confidence interval of
short dotted line,
1967Q1-2018Q1
the standard structural VAR [when leverage volatility is restricted from entering in Broker–dealer
the conditional mean equation (1) indicating that K is a null matrix in equation (1)]. leverage
The responses from the models are shown in Figures 3–5.
As it is found that broker-dealer leverage volatility has no significant impact on
volatility
the stock market indices (see column 3 of Table 1), the solid responses from the
GARCH-in-mean model and the long-dotted responses from the structural VAR
model almost lie on each other for all the cases (Figures 3–5). A large portion of the
9

Figure 4.
Responses of DJIA to
a positive and
negative leverage
shock in the GARCH-
in-mean VAR (solid
line) and in the
standard structural
VAR (long dotted
line) with the
confidence interval of
short dotted line,
1967Q1-2018Q1
SEF confidence intervals also overlaps each other. The figures indicate that the
39,1 magnitude of increase (decrease) in stock prices when broker-dealer leverage rises
(falls) without considering the existence of leverage volatility is almost equal to the
magnitude of increase (decrease) in stock prices when broker-dealer leverage rises
(falls) with considering the existence of leverage volatility. So, broker-dealer leverage
volatility has no significant impact on the relationship between broker-dealer
10 leverage and stock prices. Therefore, broker-dealer leverage volatility cannot
significantly affect stock prices for the period of 1967–2018.

Figure 5.
Responses of Nasdaq
to a positive and
negative leverage
shock in the GARCH-
in-mean VAR (solid
line) and in the
standard structural
VAR (long dotted
line) with the
confidence interval of
short dotted line,
1967Q1-2018Q1
4. Robustness Broker–dealer
The long-time span (1967–2018) used in this paper requires searching structural changes in leverage
the economy, especially because the time period had several recessions, as well as the recent
financial crisis, as shown in Figure 1.
volatility
In this section, this paper checks the robustness of the results by following the split-
sample analysis for the whole sample period (1967–2018) and run two VAR models for
two sub periods (pre-1990 and post-1990). The argument behind splitting the sample
11

Figure 6.
Responses of S&P
500 to a positive and
negative leverage
shock in the GARCH-
in-mean VAR (solid
line) and in the
standard structural
VAR (long dotted
line) with the
confidence interval of
short dotted line,
1967Q1-1989Q4
SEF period is reflected in Figure 1. The figure represents the existence of a high broker-
39,1 dealer leverage volatility during the pre-1990 period and overall a low broker-dealer
leverage volatility (with the only exception of high volatility during 2007–2009
financial crisis) during the post-1990 period. So, the pre- and post-1990 periods
are particularly interesting for dividing the full sample and to examine whether
the impact of broker-dealer leverage volatility is different on stock prices in each of the
12 sub-samples. The results from the VAR models are represented in Tables 3–4 and
Figures 6–11.

Figure 7.
Responses of DJIA to
a positive and
negative leverage
shock in the GARCH-
in-mean VAR (solid
line) and in the
standard structural
VAR (long dotted
line) with the
confidence interval of
short dotted line,
1967Q1-1989Q4
The third column of Table 3 represents that broker-dealer leverage volatility had no Broker–dealer
significant impact on S&P 500 and DJIA for the pre-1990 period. The third column of leverage
Tables 4 represents that broker-dealer leverage volatility has no significant impact on
each of the stock prices for the post-1990 period. The results of Tables 2–3 are reflected
volatility
in Figures 6–11, where it is evident that the solid responses from the GARCH-in-mean
model and the long-dotted responses from the structural VAR model are close to each
other.
So, the results from the tables and figures of this section are still consistent with the main 13
result of the paper that broker-dealer leverage volatility does not significantly affect the
stock prices, specially during the post-1990 period.

Figure 8.
Responses of Nasdaq
to a positive and
negative leverage
shock in the GARCH-
in-mean VAR (solid
line) and in the
standard structural
VAR (long dotted
line) with the
confidence interval of
short dotted line,
1967Q1-1989Q4
SEF 5. Conclusion
39,1 Historically broker-dealer leverage volatility varies across booms and recessions, but its
implication on stock prices is a relatively unexplored field in the literature. This paper uses
quarterly US data from 1967:1 to 2018:1 and a multivariate GARCH-in-mean VAR model to
explore the relationship between broker-dealer leverage volatility and stock prices. S&P 500,
DJIA and Nasdaq index are used to represent stock prices. The impulse responses from the
14 GARCH-in-mean VAR confirm the procyclical nature of broker-dealer leverage indicating
that an unexpected increase in broker-dealer leverage increases stock prices. As the

Figure 9.
Responses of S&P
500 to a positive and
negative leverage
shock in the GARCH-
in-mean VAR (solid
line) and in the
standard structural
VAR (long dotted
line) with the
confidence interval of
short dotted line,
1990Q1-2018Q1
coefficient of the broker-dealer leverage volatility in the stock prices equation of the Broker–dealer
GARCH-in-mean VAR is found as nonsignificant, the paper finds that broker-dealer leverage
leverage volatility has no significant impact on the stock prices. This finding is robust for
different sub-samples within the data set. This research also finds that the magnitude of
volatility
changes in stock prices due to an unexpected change in broker-dealer leverage does not
depend on the existence of leverage volatility.
Although the theory (in Section 2) predicts that there is a potential inverse relationship
between broker-dealer leverage volatility and stock prices, this research does not find the 15

Figure 10.
Responses of DJIA to
a positive and
negative leverage
shock in the GARCH-
in-mean VAR (solid
line) and in the
standard structural
VAR (long dotted
line) with the
confidence interval of
short dotted line,
1990Q1-2018Q1
SEF empirical evidence supporting the theory. Also, in contrast with the ongoing literature that
39,1 volatility measures such as consumption volatility and market volatility can significantly affect
asset prices (as mentioned in the introduction), this paper finds that broker-dealer leverage
volatility cannot significantly affect stock prices. The variance decomposition analysis of Table 2
shows that, under the existence of leverage volatility, a broker-dealer leverage shock can explain
a very small proportion of the variance of each of the stock prices. The empirical evidence of this
16 table indicates that broker-dealer leverage volatility has a very weak impact on stock prices.
The result of this paper suggests that an unexpected increase in broker-dealer leverage
significantly increases the stock prices and vice-versa irrespective of the volatility of leverage.

Figure 11.
Responses of Nasdaq
to a positive and
negative leverage
shock in the GARCH-
in-mean VAR (solid
line) and in the
standard structural
VAR (long dotted
line) with the
confidence interval of
short dotted line,
1990Q1-2018Q1
 Broker–dealer
l 11 (Impact of leverage l 21 (Impact of leverage leverage
Variables volatility on leverage) volatility on stock prices) volatility
Leverage and S&P 500
0.804 (p = 0.148)
0.217 (p = 0.588)
Leverage and DJIA
0.986 (p = 0.094)
0.392 (p = 0.478)
Leverage and Nasdaq
0.984 (p = 0.000)
0.677 (p = 0.000)
17
Notes: The table examines whether broker-dealer leverage volatility can significantly affect leverage
and stock prices before 1990 p < 0.05 indicates the relevant coefficient is significant at a 5% significant Table 3.
level. The p-values of the second column represent that broker-dealer leverage volatility has a Coefficient estimates of
significantly negative impact on leverage when equation (1) contains leverage and Nasdaq index. For the
other two cases, broker-dealer leverage volatility has no significant impact on leverage. The p-values in the K matrix of the
the third column indicate that broker-dealer leverage volatility does not have any significant impact on GARCH-in-mean
S&P 500 and DJIA model, 1967Q1-1989Q4

l 11 (Impact of leverage l 21 (Impact of leverage

Variables volatility on leverage) volatility on stock prices)

Leverage and S&P 500
0.708 (p = 0.001) 0.027 (p = 0.936)

Leverage and DJIA
0.618 (p = 0.025) 0.175 (p = 0.555)
Leverage and Nasdaq
0.608 (p = 0.011) 0.234 (p = 0.592) Table 4.
Coefficient estimates
Notes: The table examines whether broker-dealer leverage volatility can significantly affect leverage and of the K matrix of the
stock prices after 1990 p < 0.05 indicates the relevant coefficient is significant at 5% significant level. The
p-values of the second column represent that broker-dealer leverage volatility has a significantly negative GARCH-in-mean
impact on leverage when equation (1) contains leverage and the stock prices. The p-values in the third model, 1990Q1-
column indicate that broker-dealer leverage volatility does not have any significant impact on stock prices 2018Q1

The study suggests that broker-dealer leverage volatility may not reflect a red signal for the
economy due to its incapability to influence stock prices. So, market participants may not be
pessimistic when the broker-dealer leverage volatility is high. Their stock holding decisions
should depend on the first moment of leverage and not on the second moment of leverage. This
research proposes that, irrespective of the magnitude of the volatility of the broker-dealer
leverage, the policymakers should follow macroprudential policies to manage the leverage cycle.
In this way, they can prevent stock price bubbles during booms and stock market crash during
recessions.

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Online Appendix
The data and the RATS program associated with this paper are available at the following link:
https://1drv.ms/u/s!AkBHd46FWaB4hn_l0e1B_ARj04y9?e=uo2pSO

Corresponding author
Khandokar Istiak can be contacted at: kistiak@southalabama.edu

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