Alternative Formulations of the Leverage Effect in a Stochastic Volatility Model with Asymmetric Heavy-tailed Errors
(2015) , 45 pages
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- Abstract
- This paper investigates three formulations of the leverage effect in a stochastic volatility model with a skewed and heavy-tailed observation distribu- tion. The first formulation is the conventional one, where the observation and evo- lution errors are correlated. The second is a hierarchical one, where log-volatility depends on the past log-return multiplied by a time-varying latent coefficient. In the third formulation, this coefficient is replaced by a constant. The three models are compared with each other and with a GARCH formulation, using Bayes fac- tors. MCMC estimation relies on a parametric proposal density estimated from the output of a particle smoother. The results, obtained with recent S&P500 and Swiss Market Index data, suggest that the last two leverage formulations strongly dominate the conventional one. The performance of the MCMC method is consis- tent across models and sample sizes, and its implementation only requires a very modest (and constant) number of filter and smoother particles.
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Citations
Deschamps, P. J. (2015). Alternative Formulations of the Leverage Effect in a Stochastic Volatility Model with Asymmetric Heavy-tailed Errors (CORE Discussion Paper 2015/20). https://hdl.handle.net/2078.5/193280