On the Relationship between Volatility and Stock Price in the Korean Stock Market

This paper examines the long run relationship between stock prices and volatilities using the method of King and Watson (1997) to account for the causal relationship between volatilities and stock prices induced by the leverage effect and the volatility feedback effect. The empirical results show that the long‐run relationship highly depends on the contemporaneous relationship. More precisely, the long‐run response of stock prices to a permanent volatility shock relies on the value of the volatility‐in‐mean effect and the mean‐in‐volatility effect. From the impulse response analysis, it is found that our results are supportive to the volatility feedback effect, while the leverage effect is not sufficient to account for the negative relationship between stock prices and volatility in the Korean stock market.