Intra-market price discovery in an emerging stock market: Vector fractionally-integrated error correction model and Toda-Yamamoto level VAR approaches

The study investigates the price discovery process by which markets attempt to find equilibrium prices among a system of disaggregate daily spot share price indices relating to the Malaysian Stock Exchange using a VAR. Specifically: (i) a vector fractionallycointegrated error-correction model is proposed and estimated to investigate the short-run dynamics accounting for the long-run information via a fractionally-integrated error-correction term; and (ii) the Toda-Yamamoto (1995) [k + d(max)]th-order VAR procedure to specify a 'level' VAR containing integrated and cointegrated processes of arbitrary orders is adopted to uncover the long-run driving forces behind stock market linkages. The results are interpreted in the context of the price discovery process among spot stock prices. Our findings indicate consistently that the price discovery process was focused on the palm oil market in Malaysia in the sense that this market played, relatively, the leading role (both in the short- and long-term) being the most exogenous of all. In particular, we demonstrate that previous research, by using ordinary difference VARs either by intent or lack of support of cointegration in the standard sense, ignored an important component of linkages displayed over the long run.