Rare Disaster Index And International Stock Market Return

Based on the news implied disaster risk,this paper presents a new rare disaster index(RDI)and studies the relationship between the index and international stock market.We selected seven most advanced industrialized countries,using dynamic factors analysis method to respectively construct an aggregate ex ante measure of rare disasters for each market.Using in-sample and out-of-sample prediction,pooled regression,encompassing test and asset allocation,we research the ability forecasting the different horizon excess turn of RDI.The results show the positive prediction for RDI to forecast the individual countries’ future return.The same results show in the Pooled regression.After controlling the risk-free interest rate,dividend yield and the US return,its forecasting ability is still very stable,and adding RDI can obviously improve the R2 of the model.No matter for the individual country or the average international prediction ability,RDI always outperform than the historical benchmark in out-of-sample forecast regression,and the same results showed as we use the asset allocation method.In order to compare with the original indicators’ prediction effect,this article has carried on the encompassing test.The empirical shows that RDI forecasting model not only contains the information of the original classifications prediction model,and the performance is better than NVIX and GPR.On the supplementary evidence,we joined the other countries and regions forecasting results except the G7.We found that RDI also has statistical significant predictive power.Finally,we tried to explain the mechanism of the forecast ability.The RDI negatively predict the future forecasting consumption growth.We then conclude RDI the role in positively predict future return.