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Modeling Latin-American Stock Markets Volatility: Varying Probabilities and Mean Reversion in a Random Level Shifts Model

Gabriel Rodríguez

No 2015-403, Documentos de Trabajo / Working Papers from Departamento de Economía - Pontificia Universidad Católica del Perú

Abstract: Following Xu and Perron (2014), we applied the extended RLS model to the daily stock market returns of Argentina, Brazil, Chile, Mexico and Peru. This model replaces the constant probability of level shifts for the entire sample with varying probabilities that record periods with extremely negative returns; and furthermore, it incorporates a mean reversion mechanism with which the magnitude and the sign of the level shift component will vary in accordance with past level shifts that deviate from the long-term mean. Therefore, four RLS models are estimated: the basic RLS, the RLS with varying probabilities, the RLS with mean reversion, and a combined RLS model with mean reversion and varying probabilities. The results show that the estimated parameters are highly signiÖcant, especially that of the mean reversion model. An analysis is also performed of ARFIMA and GARCH models in the presence of level shifts, which shows that once these shifts are taken into account in the modeling, the long memory characteristics and GARCH e§ects disappear. Our forecasting analysis conÖrms that the RLS models are more accurate than other classic long-memory models. JEL Classification-JEL: C22, C52.

Keywords: Random Level Shifts Model; Volatility; Long Memory; GARCH; Latin-American Stock Markets; Varying Probabilities; Mean Reversion; Forecasting; Larga Memoria; Mercados Bursátiles de América Latina; modelo con Cambios de Nivel Aleatorios; Predicción; Probabilidades Variantes; Reversión a la Media; Volatilidad (search for similar items in EconPapers)
Pages: 45
Date: 2015
New Economics Papers: this item is included in nep-fmk and nep-lam
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