Sector diversification during crises: a European perspective

Abstract

The dynamics of the cross-correlations between the 10 Dow Jones European sector financial indices are analyzed through to the Dynamic Conditional Correlations (DCC) model during the period 1987-2003. First, the paper confirms that, on the whole, the correlations are highly volatile. Second, it brings insights on the behavior of the sector correlations during the IT bubble. The comparison of the pre- and post-bubble periods leads to the conclusion that the sector indices do not suffer from the contagion effects (a correlation increase damaging the portfolio diversification) observed by several authors on country indices. Therefore, it is argued that the benefits from sector diversification during crises must be taken into account by portfolio managers.

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