Page 25 - Azerbaijan State University of Economics

THE Luan Vardari, Kiran Sood: Sate-Dependent Transmission of Oil and Electricity Shocks to
Equity Markets: Evidence from Emerging and Transitional Economies

2.4. Theoretical transmission channels
Some of the studies indicate that the impact of energy prices on the stock market
performance is carried out through an array of channels. Raifu and Oshota (2023) point
out six key pathways as cash-flow, monetary, wealth-transfer, output, fiscal, and
uncertainty in continuation of the previous classification by Huang et al. (1996) and Tang
et al. (2010). Furthermore, Bildirici and Badur (2019) present the notion of a channel of
confidence, as the transmission of macroeconomic shocks occurs via the investor
sentiment. These theoretical frameworks share similarities with the observations made by
Kilian and Park (2009) who opined that the demand-based oil shocks tend to drive equity
markets positively by portending better growth prospects of the world economy. Supply-
side disturbances on the other hand have a tendency of suppressing the returns by
increasing the cost of production. Subsequent studies by Wang et al. (2013) and Bouri et
al. (2017) reinforced this finding by demonstrating that the direction and continuity of
these effects is determined by a countries oil importing or exporting status. The literature
reviewed illustrates the complex and multidimensional connections between energy
markets and financial markets. The contribution of the reviewed papers consistently
highlights the need for analytical frameworks that account for market asymmetries,
regime-switching behaviors, and evolving financial conditions, to offer a more realistic
portrayal of how shocks in the energy sector may propagate to financial markets, under
different economic states (Hasanli & Rahimli, 2023), (Musayev, 2019).

2.5. Positioning within the broader literature
This study is theoretically situated at the confluence of two main lines of research:
behavioral finance, which examines individual decision-making under macroeconomic
asymmetry, and the modeling of volatility in energy markets. This analysis develops from
these lines of inquiry to encompass, and then interrogate, both structural and stochastic
nonlinearities that are implicit in energy and financial systems dynamics. Specifically,
this examination takes advantage of the MS-VAR framework proposed by Bildirici and
Badur (2019) and the hybrid SVAR-Markov method issued by Raifu and Oshota (2023).
Evidence shows that energy shocks affect different countries in varied ways, based on
trajectories with economic growth (for example, as natural resource dependence
decreases), as well as levels of market development. Further, return and distribution
differences across regimes add to the complexity of these relations. Accordingly, scholars
have turned towards more advanced methods of econometric analysis, including local
quantile projections (Koenker & Bassett, 1978; Jorda, 2005), copula-based models
(Patton, 2006) and DCC-GARCH (Engle, 2002), as empirical methods to further study
these associations. Each of these approaches offer a new empirical analytic perspective to
better study dependence structure, especially in the tails, shedding further light on how

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