Do We Really Need Both BEKK and DCC? A Tale of Two Covariance Models

29 Pages Posted: 5 Feb 2009 Last revised: 24 Jun 2009

See all articles by Massimiliano Caporin

Massimiliano Caporin

University of Padua - Department of Statistical Sciences

Michael McAleer

Erasmus University Rotterdam - Erasmus School of Economics, Econometric Institute; Tinbergen Institute; University of Tokyo - Centre for International Research on the Japanese Economy (CIRJE), Faculty of Economics

Date Written: February 5, 2009

Abstract

Large and very large portfolios of financial assets are routine for many individuals and organizations. The two most widely used models of conditional covariances and correlations are BEKK and DCC. BEKK suffers from the archetypal "curse of dimensionality" whereas DCC does not. This is a misleading interpretation of the suitability of the two models to be used in practice. The primary purposes of the paper are to define targeting as an aid in estimating matrices associated with large numbers of financial assets, analyze the similarities and dissimilarities between BEKK and DCC, both with and without targeting, on the basis of structural derivation, the analytical forms of the sufficient conditions for the existence of moments, and the sufficient conditions for consistency and asymptotic normality, and computational tractability for very large (that is, ultra high) numbers of financial assets, to present a consistent two step estimation method for the DCC model, and to determine whether BEKK or DCC should be preferred in practical applications.

Keywords: Conditional correlations, conditional covariances, diagonal models, forecasting, generalized models, Hadamard models, scalar models, targeting

JEL Classification: G11, G33, C32

Suggested Citation

Caporin, Massimiliano and McAleer, Michael, Do We Really Need Both BEKK and DCC? A Tale of Two Covariance Models (February 5, 2009). Available at SSRN: https://ssrn.com/abstract=1338190 or http://dx.doi.org/10.2139/ssrn.1338190

Massimiliano Caporin (Contact Author)

University of Padua - Department of Statistical Sciences ( email )

Via Battisti, 241
Padova, 35121
Italy

Michael McAleer

Erasmus University Rotterdam - Erasmus School of Economics, Econometric Institute ( email )

Rotterdam
Netherlands

Tinbergen Institute

Rotterdam
Netherlands

University of Tokyo - Centre for International Research on the Japanese Economy (CIRJE), Faculty of Economics

Tokyo
Japan

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