The good, the bad, and the asymmetric: Evidence from a new conditional density model

Andreï Kostyrka and Dmitry Igorevich Malakhov, ()
Additional contact information
Dmitry Igorevich Malakhov,: HSE University, Moscow, RS

DEM Discussion Paper Series from Department of Economics at the University of Luxembourg

Abstract: We propose a novel univariate conditional density model and decompose asset returns into a sum of copula-connected unobserved ‘good’ and ‘bad’ shocks. The novelty of this approach comes from two factors: we explicitly model correlation between unobserved shocks and allow for the presence of copula-connected discrete jumps. The proposed framework is very flexible and subsumes other models, such as ‘bad environments, good environments’. Our model shows certain hidden characteristics of returns, explains investors’ behaviour in greater detail, and yields better forecasts of risk measures. The in-sample and out-of-sample performance of our model is better than that of 40 popular GARCH variants. A Monte-Carlo simulation shows that the proposed model recovers the structural parameters of the unobserved dynamics. We estimate the model on S&P 500 data and find that time-dependent non-negative covariance between ‘good’ and ‘bad’ shocks with a leverage-like effect is an important component of total variance. Asymmetric reaction to shocks is present almost in all characteristics of returns. Conditional distribution of seems to be very time-dependent with skewness both in the centre and tails. We conclude that continuous shocks are more important than discrete jumps at least at daily frequency.

Keywords: GARCH; conditional density; leverage effect; jumps; bad volatility; good volatility. (search for similar items in EconPapers)
JEL-codes: C53 C58 C63 G17 (search for similar items in EconPapers)
Date: 2021
New Economics Papers: this item is included in nep-ecm, nep-ore and nep-rmg
References: Add references at CitEc
Citations:

Downloads: (external link)
http://hdl.handle.net/10993/47435 (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:luc:wpaper:21-09

Access Statistics for this paper

More papers in DEM Discussion Paper Series from Department of Economics at the University of Luxembourg Contact information at EDIRC.
Bibliographic data for series maintained by Marina Legrand ().