Role Of Energy On Economy,Stocks And Portfolio Optimizatioi

This study attempts to examine the role of energy on macro to micro level economy and also investigate how investors can utilize such energy shocks to hedge the portfolio risk.We use general to specific analysis procedure to attain the objectives of this study.Firstly,we try to examine the role of oil price and electricity consumption on gross domestic product by using the yearly data of 210 countries.The dataset is further categorized into five sub categories:income level,OECD&non-OECD,regional level,renewable energy consumption proportion and oil import/export countries.The findings report the significance of oil price and electricity consumption nearly in all the categories.However,oil price is positive and statistically significant in most of the cases.The results for the case of Pakistan reports that rise in oil price have positive impact on gross domestic product,stock market return and industrial stock return.On contrary,electricity price and electricity consumption are negatively related to the gross domestic product,stock market return,industrial stock return and firm stock return.Moreover,the empirical estimations of Pakistani stock market-analysis confirm the interdependence within stock markets and oil market;the lagged news in stock/oil market has significant impact on current conditional volatility of stock/oil market,in its respective markets.Pre-crisis and during-crisis period have confirmed the volatility spillover from oil to stock market,whereas,the results of during-crisis period and post-crisis period have reported that there is no shock transmission and volatility spillover from stock to oil market.For the estimations of industrial stock return,we collect the yearly data of 397 listed firm and divide them into twelve sectors;textile,chemical,engineering,sugar,paper&board,cement,fuel&energy,transportation&communication,tobacco,jute,vanaspati and miscellaneous sectors.The purpose for this is to study the response of different Pakistani industries to oil price shocks,lagged oil price and oil price volatility.The estimated findings are interesting and are in line with the previous results;the rise in oil prices have positive and significant impact on industrial stock return for textile,chemical,cement,fuel&energy and miscellaneous sectors,indicating that these sectors get benefit in the period of oil price rise.To examine the role of oil price shocks and volatility to firm stock returns,we use the daily base dataset of 107 firm,the firms having missing values are excluded from the dataset.The results provide the evidence of interdependence in firm stock and oil market,suggesting that the lagged shocks in firm stocks and oil market have significant impact on current conditional volatility,in its respective markets.While,considering the estimations of shocks transmission,we can observe that the results varies across industries,but it is hard to deny the existence of shock transmission across firm stocks and oil market.All the firms prove the existence of volatility transmission from oil to firm stocks and from firm stocks to oil market in case of Pakistan.All things considered then we can conclude that oil price have positive and statistical significant impact on gross domestic product,stock market return,industrial stock return and firm stock return.The reason behind the positive relationship can be discussed through different channels,such as Pakistan is a developing country that needs energy to run its industrial operation which in turn boosts the firms profit,stock return and economic growth of the country.After discussing the role of oil on macro and micro level economy,we divert our attention towards the importance of oil asset to hedge the portfolio risk.Firstly,we use the data of stock market and oil market to investigate the role of oil assets to minimize the portfolio risk.The results of average weights and hedge ratio confirm the importance of oil asset which demonstrating that portfolio risk can be hedged by purchasing oil assets.Later on,we examine that the portfolio analysis on different scenarios:pre-crisis,during-crisis and post crisis.Most of the estimations confirm that oil asset is useful to minimize the portfolio risk without changing the expected returns.For individual investors and portfolio managers,we make our study more specific and emphasis on the individual firm’s stock return instead of stock market.The firms listed in manufacturing industry report the significance of oil assets to minimize the portfolio risk;the investors can hedge the risk by spending more than fifty percent of total investment on oil assets and remaining can be invested to buy manufacturing firm stocks.Quite the opposite,for the firms belongs to the financial&investment,and oil&gas sectors,the investors can hedge the portfolio risk by investing higher proportion to buy the firm stocks and less proportion on oil assets.The cause behind the financial and investment portfolio results is that the sector doesn’t rely on oil for its oprational acivities.In general,however,oil is an essential component that plays a significnat role on macro to micro level economy as well as to hedge the portfolio risk.These findings can be used by the portfolio managers and individual investors for constructing an optimal portfolio that minimize the risk without changing the expected returns.