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Combining Markov Switching and Smooth Transition in Modeling Volatility: A Fuzzy Regime MEM

Giampiero Gallo () and Edoardo Otranto ()

No 2016_02, Econometrics Working Papers Archive from Universita' degli Studi di Firenze, Dipartimento di Statistica, Informatica, Applicazioni "G. Parenti"

Abstract: Volatility in financial markets alternates persistent turmoil and quiet periods. Modelling realized volatility time series requires a specification in which these sub-periods are adequately represented. Changes in regimes is a solution, but the question of whether transition between periods is abrupt or smooth remains open. We provide a new class of models with a set of parameters subject to abrupt changes in regime and another set subject to smooth transition changes. These models capture the possibility that regimes may overlap with one another ( fuzzy ). The empirical application is carried out on the volatility of four US indices.

Keywords: Volatility; Regime switching; Smooth transition; Forecasting; Turbulence; Multiplicative Error Models; MEM (search for similar items in EconPapers)
JEL-codes: C58 C22 G01 (search for similar items in EconPapers)
Pages: 26 pages
Date: 2016-04
New Economics Papers: this item is included in nep-ecm, nep-ets and nep-ore
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