The role of institutional investors in market volatility during the subprime mortgage crisis

Abstract

In this study, we obtain intraday data on the Taiwan Stock Exchange Capitalization Weighted Stock Index and apply the range-based estimation method to measure intraday high–low prices, whilst also incorporating the variable of net trading volume of institutional investors into the heterogeneous autoregressive model of realized volatility (RV). Our findings demonstrate that the trading behaviour of institutional investors does have a significant impact on future RV whilst also suggesting that institutional investors play a stabilizing role in the Taiwan stock market. The empirical results also show that institutional investors’ net selling caused more volatility in the Taiwan stock market during the subprime mortgage crisis in the United States in 2007, indicating that institutional investors tend to sell more actively than individuals when the market drops sharply. We also demonstrate that the modified model enhances volatility forecasting performance, thereby indicating that the modified model has more accurate predictive ability than the benchmark model.

Keywords:

• institutional investors
• realized range-based volatility
• net trading volume
• subprime mortgage crisis

JEL Classification:

• C32
• G10

Notes

¹ Bekaert et al. (2002) found that financial market liberalization brings new foreign investors into local markets and that institutional investors play an increasingly important role in stock markets.

² See, for example, Choe et al. (1999), Dennis and Weston (2001), Karolyi (2002) and Lin et al. (2010).

³ Corsi et al. (2008) have suggested that with the availability of high-frequency financial market data, modelling RV has become a new and innovative research focus over the past decade.

⁴ Todorova (2012) also found that the realized range, an estimator obtained from intraday ranges, is more efficient and less biased than the daily ranges.

⁵ See, for example, Andersen et al. (2003, 2007), Barndorff-Nielsen and Shephard (2004, 2006), Ghysels et al. (2006, 2007), Forsberg and Ghysels (2007), Christensen and Podolskij (2006, 2012), Corsi (2009), Vortelinos and Thomakos (2012), Tseng et al. (2012).

⁶ The foreign institutional investors include qualified foreign institutional investors and general foreign institutional investors.

⁷ Huang and Yang (2001) found that approximately 92% of all participants in the Taiwan stock market were individual investors, representing a major contributory factor to persistent volatility.

⁸ In order to have the same significance level as for the bi-power variation test for jumps developed by Barndorff–Nielsen and Shephard (2006), this study uses a significance level of α = 0.001 for the jump test.

⁹ Using the modified jump detection test, as proposed by Christensen and Podolskij (2012), we test for jumps and also separate the jump and continuous components of RRV_t.

¹⁰ The intraday data covering the period from 1 March 2007 to 28 December 2008 were used to estimate the HAR-RRV-C-Inst model parameters during the subprime mortgage crisis.