THE STOCHASTIC COMPONENT OF REALIZED VOLATILITY

Wai Mun Fong () and Wing-Keung Wong
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Wai Mun Fong: Department of Finance and Accounting, National University of Singapore, Singapore;

Annals of Financial Economics (AFE), 2006, vol. 02, issue 01, 1-34

Abstract: Volatility–volume regressions provide a convenient framework to study sources of volatility predictability. We apply this approach to the daily realized volatility of common stocks. We find that unexpected volume plays a more significant role in explaining realized volatility than expected volume, and accounts for about one-third of the non-persistent component in the volatility process. Contrary to the findings of Lamoureux and Lastrapes (1990), the ARCH effect is robust even in the presence of volume. However, this component explains only about half of the variations in realized volatility. Thus, large portion of realized volatility is clearly stochastic. This presents a significant challenge to the goal of achieving precise realized volatility forecasts.

Keywords: Realized volatility; trading volume; autoregressive models; ARCH; C22; G10 (search for similar items in EconPapers)
Date: 2006
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DOI: 10.1142/S2010495206500047

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