Multivariate Stochastic Volatility With Co Heteroscedasticity

Author : Alexander Philipov
Publisher :
ISBN 13 :
Total Pages : 57 pages
Book Rating : 4.:/5 (129 download)

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Download or read book Multivariate Stochastic Volatility Via Wishart Random Processes written by Alexander Philipov and published by . This book was released on 2004 with total page 57 pages. Available in PDF, EPUB and Kindle. Book excerpt: Financial models for asset and derivatives pricing, risk management, portfolio optimization, and asset allocation rely on volatility forecasts. Time-varying volatility models, such as GARCH and Stochastic Volatility (SVOL), have been successful in improving forecasts over constant volatility models. We develop a new multivariate SVOL framework for modeling financial data that assumes covariance matrices stochastically varying through a Wishart process. In our formulation, scalar variances naturally extend to covariance matrices rather than vectors of variances as in traditional SVOL models. Model fitting is performed using Markov chain Monte Carlo simulation from the posterior distribution. Due to the complexity of the model, an efficiently designed Gibbs sampler is described that produces inferences with a manageable amount of computation. Our approach is illustrated on a multivariate time series of monthly industry portfolio returns. In a test of the economic value of our model, minimum-variance portfolios based on our SVOL covariance forecasts outperform out-of-sample portfolios based on alternative covariance models such as Dynamic Conditional Correlations and factor-based covariances.