Robust estimation of nonstationary, fractionally integrated, autoregressive, stochastic volatility

Mark Jensen

Studies in Nonlinear Dynamics & Econometrics, 2016, vol. 20, issue 4, 455-475

Abstract: Empirical volatility studies have discovered nonstationary, long-memory dynamics in the volatility of the stock market and foreign exchange rates. This highly persistent, infinite variance, but still mean reverting, behavior is commonly found with nonparametric estimates of the fractional differencing parameter, d, for financial volatility. In this paper, a fully parametric Bayesian estimator, robust to nonstationarity, is designed for the fractionally integrated, autoregressive, stochastic volatility (SV-FIAR) model. Joint estimates of the autoregressive and fractional differencing parameters of volatility are found via a Bayesian, Markov chain Monte Carlo (MCMC) sampler. Like [Jensen, M. J. 2004. “Semiparametric Bayesian Inference of Long-memory Stochastic Volatility.” Journal of Time Series Analysis 25: 895–922.], this MCMC algorithm relies on the wavelet representation of the log-squared return series. Unlike the Fourier transform, where a time series must be a stationary process to have a spectral density function, wavelets can represent both stationary and nonstationary processes. As long as the wavelet has a sufficient number of vanishing moments, this paper’s MCMC sampler will be robust to nonstationary volatility and capable of generating the posterior distribution of the autoregressive and long-memory parameters of the SV-FIAR model regardless of the value of d. Using simulated and empirical stock market return data, we find our Bayesian estimator producing reliable point estimates of the autoregressive and fractional differencing parameters with reasonable Bayesian confidence intervals for either stationary or nonstationary SV-FIAR models.

Keywords: Bayes; infinite variance; long-memory; Markov chain Monte Carlo; mean-reverting; wavelets (search for similar items in EconPapers)
JEL-codes: C11 C14 C22 (search for similar items in EconPapers)
Date: 2016
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Working Paper: Robust estimation of nonstationary, fractionally integrated, autoregressive, stochastic volatility (2015)
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DOI: 10.1515/snde-2014-0116

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