Publication Type

Working Paper

Version

publishedVersion

Publication Date

3-2019

Abstract

The linkage among the realized volatilities across component stocks are important when modeling and forecasting the relevant index volatility. In this paper, the linkage is measured via an extended Common Correlated Effects (CCE) approach under a panel heterogeneous autoregression model where unobserved common factors in errors are assumed. Consistency of the CCE estimator is obtained. The common factors are extracted using the principal component analysis. Empirical studies show that realized volatility models exploiting the linkage effects lead to significantly better out-of-sample forecast performance, for example, an up to 32% increase in the pseudo R2. We also conduct various forecasting exercises on the the linkage variables that compare conventional regression methods with popular machine learning techniques.

Keywords

Volatility Forecasting, Heterogeneous autoregression, Common correlated effect, Factor analysis, Random forest

Discipline

Econometrics

Research Areas

Econometrics

First Page

1

Last Page

40

Publisher

SMU Economics and Statistics Working Paper Series, Paper No. 07-2019

Included in

Econometrics Commons

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