An Empirical Analysis of Terrorism and Stock Market Spillovers: The Case of Spain

ABSTRACT

This article assesses the spillover effects between terrorist activity and Spanish stock market returns for the period 1993–2017 . We construct a daily terror index that reflects the terrorist activity of different types of perpetrators: domestic terrorism (ETA) and international terrorism linked to Islamic extremism. Our static analysis shows that connectedness is important, as it explains about half of the forecast error variance; most of it is attributed to shocks from terrorist events on stock market return forecasts. Our dynamic analysis also uncovers an increase in spillover effects between the early period characterised by ETA terrorist attacks and the recent past characterised by Islamic terrorist attacks.

KEYWORDS:

• Terrorism
• type of perpetrator
• Spanish stock market returns
• connectedness
• spillovers
• variance decomposition

JEL CLASSIFICATION:

• C22
• G1
• G41
• D74

Disclosure statement

No potential conflict of interest was reported by the authors.

Notes

1. Drakos (2011) explained that reactions to a stimulus are affected by memory-based utility, which treats the subject’s retrospective evaluation of past episodes and situations as valid data. The availability heuristic is a term used to describe how individuals judge the probability of an event: according to the ease with which one can imagine similar events or by the number of such instances that are readily retrieved from memory.

2. Global Terrorism Database [data file]. Retrieved from http://www.start.umd.edu/gtd.

3. Leoniso, Molina, and Muro (2017) provided a summary of the Basque conflict and an overview of ETA’s campaign of political violence, extortion, and threats.

4. Other events that have had a significant impact on the total connectedness of the terror index and the Spanish stock market returns are related to the tech bubble in 2000, the FED tightening process during 2006, the sub-prime crisis, and the eurozone debt crisis of 2010 and 2011.

Additional information

Funding

This work was supported by CUD and by the Government of Aragón (Group Reference CREVALOR: S42_17R) and co-financed with FEDER 2014-2020 ‘Construyendo Europa desde Aragón’.