Co-movement and causal relationships between conventional and Islamic stock market returns under regime-switching framework

Purpose – This paper aims at examining the co-movement dependent regime and causality relationships
between conventional and Islamic returns for emerging, frontier and developed markets from November 2008
to August 2020.
Design/methodology/approach – First, the authors used the Markov-switching autoregression (MS–AR)
model to capture the regime-switching behavior in the stock market returns. Second, the authors applied the
Markov-switching regression and vector autoregression (MS-VAR) models in order to study, respectively, the
co-movement and causality relationship between returns of conventional and Islamic indexes across market
states.
Findings – Results show the presence of two different regimes for the three studied markets, namely, stability
and crisis periods. Also, the authors found evidence of a co-movement relationship between the conventional
and Islamic indexes for the three studied markets whatever the regime. For the Granger causality, it is proved
only for emerging and developed markets and only during the stability regime. Finally, the authors conclude
that Islamic indexes can act as diversifiers, or safe-haven assets are not strongly supported.
Originality/value – This paper is the first study that examines the co-movement and the causal relationship
between conventional and Islamic indexes not only across different financial markets’ regimes but also during
the COVID-19 period. The findings may help investors in making educated decisions about whether or not to
add Islamic indexes to their portfolios especially during the recent outbreak.