Selective Linear Segmentation for Detecting Relevant Parameter Changes

Arnaud Dufays (), Elysee Aristide Houndetoungan and Alain Coën
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Arnaud Dufays: EDHEC - EDHEC Business School - UCL - Université catholique de Lille

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Abstract: Abstract Change-point (CP) processes are one flexible approach to model long time series. We propose a method to uncover which model parameters truly vary when a CP is detected. Given a set of breakpoints, we use a penalized likelihood approach to select the best set of parameters that changes over time and we prove that the penalty function leads to a consistent selection of the true model. Estimation is carried out via the deterministic annealing expectation-maximization algorithm. Our method accounts for model selection uncertainty and associates a probability to all the possible time-varying parameter specifications. Monte Carlo simulations highlight that the method works well for many time series models including heteroskedastic processes. For a sample of fourteen hedge fund (HF) strategies, using an asset-based style pricing model, we shed light on the promising ability of our method to detect the time-varying dynamics of risk exposures as well as to forecast HF returns.

Date: 2022-09-01
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Published in Journal of Financial Econometrics, 2022, 20 (4), pp.762-805. ⟨10.1093/jjfinec/nbaa032⟩

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Persistent link: https://EconPapers.repec.org/RePEc:hal:journl:hal-05783347

DOI: 10.1093/jjfinec/nbaa032

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