Regime Switching Volatility Calibration by the Baum-Welch Method

Sovan Mitra

Papers from arXiv.org

Abstract: Regime switching volatility models provide a tractable method of modelling stochastic volatility. Currently the most popular method of regime switching calibration is the Hamilton filter. We propose using the Baum-Welch algorithm, an established technique from Engineering, to calibrate regime switching models instead. We demonstrate the Baum-Welch algorithm and discuss the significant advantages that it provides compared to the Hamilton filter. We provide computational results of calibrating the Baum-Welch filter to S&P 500 data and validate its performance in and out of sample.

Date: 2009-04
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Citations: View citations in EconPapers (4)

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