Abstract

This paper proposes a method for modeling and estimating the dependence between MENA stock markets and FX returns based on copula and extreme value theory. Each return is modeled by GARCH models with the joint distribution of innovations modeled by copulas. Generalized Pareto distribution is adopted to model marginal distributions both in the left and in the right tail. Our empirical results suggest that the majority of pairs of daily financial returns (stock market return /FX return) seem better modeled by the bivariate Clayton copula during the two periods of study. In addition, all estimated parameters are positive reflecting a positive dependence between these returns during periods of declining and rising market. However, the intensity of this dependence differs from one country to another and from one period to another and the released results depend on the selected copula. Our findings have important implications for regional investors opting for intra-regional diversification strategy by taking into account joint tail risk and providing recommendations to clarify the influence of risk on the investor and especially to optimize investment choices.