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The Factor-Spline-GARCH Model for High and Low Frequency Correlations

Jose Gonzalo Rangel () and Robert F. Engle

No 2009-03, Working Papers from Banco de México

Abstract: We propose a new approach to model high and low frequency components of equity correlations. Our framework combines a factor asset pricing structure with other specifications capturing dynamic properties of volatilities and covariances between a single common factor and idiosyncratic returns. High frequency correlations mean revert to slowly varying functions that characterize long-term correlation patterns. We associate such term behavior with low frequency economic variables, including determinants of market and idiosyncratic volatilities. Flexibility in the time varying level of mean reversion improves the empirical fit of equity correlations in the US and correlation forecasts at long horizons.

Keywords: Yield curve; forecasting; economic activity (search for similar items in EconPapers)
JEL-codes: C22 C32 C51 C53 G11 G12 G32 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ecm, nep-ets and nep-mst
Date: 2009-02
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Journal Article: The Factor--Spline--GARCH Model for High and Low Frequency Correlations (2011) Downloads
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