Forecasting Volatility in the Presence of Model Instability

Australian & New Zealand Journal of Statistics, Vol. 52, No. 2, pp. 221–237, 2010

Posted: 25 Aug 2010

See all articles by Jonathan J. Reeves

Jonathan J. Reeves

UNSW Business School, University of New South Wales; Financial Research Network (FIRN)

John M. Maheu

McMaster University - Michael G. DeGroote School of Business; RCEA

Xuan Xie

Commonwealth Bank of Australia

Date Written: August 23, 2010

Abstract

Recent advances in financial econometrics have allowed for the construction of efficient ex post measures of daily volatility. This paper investigates the importance of instability in models of realised volatility and their corresponding forecasts. Testing for model instability is conducted with a subsampling method. We show that removing structurally unstable data of a short duration has a negligible impact on the accuracy of conditional mean forecasts of volatility. In contrast, it does provide a substantial improvement in a model’s forecast density of volatility. In addition, the forecasting performance improves, often dramatically, when we evaluate models on structurally stable data.

Keywords: high-frequency data, integrated volatility, realised volatility

Suggested Citation

Reeves, Jonathan J. and Maheu, John M. and Xie, Xuan, Forecasting Volatility in the Presence of Model Instability (August 23, 2010). Australian & New Zealand Journal of Statistics, Vol. 52, No. 2, pp. 221–237, 2010, Available at SSRN: https://ssrn.com/abstract=1663667

Jonathan J. Reeves (Contact Author)

UNSW Business School, University of New South Wales ( email )

Sydney, NSW 2052
Australia

Financial Research Network (FIRN) ( email )

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

John M. Maheu

McMaster University - Michael G. DeGroote School of Business ( email )

1280 Main Street West
Hamilton, Ontario L8S 4M4
Canada

HOME PAGE: http://profs.degroote.mcmaster.ca/ads/maheujm/

RCEA

Via Patara, 3
Rimini (RN), RN 47900
Italy

HOME PAGE: http://www.rcfea.org/

Xuan Xie

Commonwealth Bank of Australia ( email )

Sydney, NSW 2052
Australia

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