Heterogeneous impacts of oil prices on China's stock market: Based on a new decomposition method

Along with the growing dependence on oil-imports, China's stock market is susceptible to large oil price fluctuations. We revisit this issue by focusing on the heterogeneous effects of different oil price fluctuations in the post-crisis period. Both shocks and volatility in oil prices are divided into expected and unexpected parts. Because stock markets may also be affected by other factors, we apply the generalized additive outlier (GAO) method to solve the problem of missing variables and reduce the possibility of spurious regression. We have reached three new insights. First, expected oil price shocks have negative, while the unexpected shocks have positive effect on China's stock returns. Second, expected oil price volatility boosts the stock returns, whereas unexpected oil price volatility can depress the stock returns and amplify the stock volatility simultaneously. Third, last unexpected oil price volatility is positively associated with the stock returns while negatively associated with the stock volatility. This means there may be a rally in the stock market after the impacts of sudden oil price volatility hikes. These findings imply that financial skill training and an efficient risk-alert mechanism may both be helpful to balance the effects of unexpected oil price shocks and unexpected oil price volatility on China's stock market. •The relationship between oil prices oscillations and China's stock markets.•Three heterogeneous effects between oil prices and stock markets was proved.•GAO method was used to control other potential factors in our paper.•Risk warning mechanism should be improved to reduce the overreaction.