The impact of terrorism on crude oil returns and volatility : a case study in the Middle East and Africa

Abstract

Purpose: this study explores the impact of terrorism on daily Brent crude oil returns and volatility. From mid-1987 till end of 2013, we examine how successful terrorist attacks with high and low intensity and carried out in the most oil-dependent Middle Eastern and African countries affect Brent dynamics. We also investigate the degree to which attacks against oil businesses and facilities play a role in altering Brent returns and affecting their fluctuations. Design/methodology/approach: we gathered from the Global Terrorism Database (GTD) all the daily terrorist attacks performed against Saudi Arabia, Iran, Iraq, Libya, Algeria, Nigeria and Angola during the sample period. We modeled Brent crude oil returns and volatility using GARCH (1,1) framework. Findings: our results show that the return of Brent oil does not depend on the target of the attack (oil facilities) but instead on the number of successful attacks leading thereby to supply shocks in the selected countries. The volatility of crude oil returns exhibits a high persistence, yet it is not statistically significant. Our analysis suggests that such terrorist shocks do not yield to sentiments of fear and chaos in the behavior of traders and investors. Research limitations/implications: our findings imply that the persistence of volatility in oil returns may be overestimated due to the absence of structural breaks. Also, asymmetric models could have been applied to better gauge the effect of negative shocks on volatility, and dummies rather than continuous variables to determine the marginal impact of each attack on oil returns and volatility. Practical implications: Important implications can be drawn for policymakers who must take action in order to prevent terrorism or at least minimize its effect to protect their economies. Moreover, such study would help investors in decision making; especially those concerned with the exposure of their portfolios to oil and terrorism-related risks.