Volatility and covariation of financial assets: A high-frequency analysis
AbstractUsing high frequency data for the price dynamics of equities we measure the impact that market microstructure noise has on estimates of the: (i) volatility of returns; and (ii) variance–covariance matrix of n assets. We propose a Kalman-filter-based methodology that allows us to deconstruct price series into the true efficient price and the microstructure noise. This approach allows us to employ volatility estimators that achieve very low Root Mean Squared Errors (RMSEs) compared to other estimators that have been proposed to deal with market microstructure noise at high frequencies. Furthermore, this price series decomposition allows us to estimate the variance covariance matrix of n assets in a more efficient way than the methods so far proposed in the literature. We illustrate our results by calculating how microstructure noise affects portfolio decisions and calculations of the equity beta in a CAPM setting.
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Bibliographic InfoArticle provided by Elsevier in its journal Journal of Banking & Finance.
Volume (Year): 35 (2011)
Issue (Month): 12 ()
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Web page: http://www.elsevier.com/locate/jbf
Volatility estimation; High-frequency data; Market microstructure noise; Covariation of assets; Kalman filter;
Other versions of this item:
- Alvaro Cartea & Dimitrios Karyampas, 2009. "Volatility and covariation of financial assets: a high-frequency analysis," Business Economics Working Papers wb097609, Universidad Carlos III, Departamento de Economía de la Empresa.
- Álvaro Cartea & Dimitrios Karyampas, 2009. "Volatility and Covariation of Financial Assets: A High-Frequency Analysis," Birkbeck Working Papers in Economics and Finance 0913, Birkbeck, Department of Economics, Mathematics & Statistics.
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
- G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
- C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models &bull Diffusion Processes
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