Dynamic dependence and risk spillovers between RMB onshore spot and offshore NDF markets

ABSTRACT

This paper investigates the dependence structure between the renminbi (RMB) onshore spot and offshore NDF markets using a GARCH-dynamic copula model. We document that the central parity reform in August 2015 marked a structural change in the dependence structure between the onshore spot and offshore NDF markets. Since the reform, the conditional correlation and tail dependence between the two markets have significantly increased and exhibited apparent time-varying patterns. We show that the difference between the central parity and spot rates and the degree of market segmentation between CNY and NDF markets are two crucial factors driving the time-varying CNY-NDF dependence. Furthermore, we find symmetric downside and upside risk spillovers between the two markets transmitted in both directions. The magnitude of spillovers has significantly increased since the reform. Our findings are particularly relevant for policy-making and portfolio risk management.

KEYWORDS:

• RMB onshore spot market
• RMB non-deliverable forward (NDF) market
• central parity reform
• copula
• GAS model

JEL CODES:

• C58
• F31
• G15

Disclosure statement

No potential conflict of interest was reported by the authors.

Notes

¹ The top-four traded NDF currencies are the Korean won, Indian rupee, Brazilian real, and New Taiwan dollar.

² The RMB experienced a cumulative drop of $2.9$ percent from the close on August 10 to August 14, 2015.

³ The Ljung-Box test is not directly applicable to standardized residuals from a GARCH model (see Wooldridge 1991). The weighted portmanteau test is essentially a weighted version of the statistic proposed by Li and Mak (1994).

Additional information

Funding

The work was supported by the National Natural Science Foundation of China [72173107]; the project of Humanities and Social Sciences from the Chinese Ministry of Education [20YJC790071].