Cholesky realized stochastic volatility model

Shinichiro Shirota, Yasuhiro Omori (), Hedibert. F. Lopes and Haixiang Piao

Econometrics and Statistics, 2017, vol. 3, issue C, 34-59

Abstract: Multivariate stochastic volatility models with leverage are expected to play important roles in financial applications such as asset allocation and risk management. However, these models suffer from two major difficulties: (1) there are too many parameters to estimate by using only daily asset returns and (2) estimated covariance matrices are not guaranteed to be positive definite. Our approach takes advantage of realized covariances to achieve the efficient estimation of parameters by incorporating additional information for the co-volatilities, and considers Cholesky decomposition to guarantee the positive definiteness of the covariance matrices. In this framework, a flexible model is proposed for stylized facts of financial markets, such as dynamic correlations and leverage effects among volatilities. By using the Bayesian approach, Markov Chain Monte Carlo implementation is described with a simple but efficient sampling scheme. Our model is applied to the data of nine U.S. stock returns, and it is compared with other models on the basis of portfolio performances.

Keywords: Cholesky stochastic volatility model; Dynamic correlations; Leverage effect; Markov chain Monte Carlo; Realized covariances (search for similar items in EconPapers)
Date: 2017
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (11)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:ecosta:v:3:y:2017:i:c:p:34-59

DOI: 10.1016/j.ecosta.2016.08.003

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