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The Effect of Long Memory in Volatility on Stock Market Fluctuations

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  • Bent Jesper Christensen
  • Morten Ørregaard Nielsen

    ()
    (School of Economics and Management, University of Aarhus, Denmark)

Abstract

Recent empirical evidence demonstrates the presence of an important long memory component in realized asset return volatility. We specify and estimate multivariate models for the joint dynamics of stock returns and volatility that allow for long memory in volatility without imposing this property on returns. Asset pricing theory imposes testable cross- equation restrictions on the system that are not rejected in our preferred specifications, which include a strong financial leverage effect. We show that the impact of volatility shocks on stock prices is small and short-lived, in spite of a positive risk-return trade-off and long memory in volatility.

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Bibliographic Info

Paper provided by School of Economics and Management, University of Aarhus in its series CREATES Research Papers with number 2007-03.

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Length: 44
Date of creation: 11 May 2007
Date of revision:
Handle: RePEc:aah:create:2007-03

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Web page: http://www.econ.au.dk/afn/

Related research

Keywords: Financial leverage; long memory; realized volatility; risk-return trade-off; stochastic volatility; stock prices; VARMA models; VIX implied volatility.;

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Citations

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Cited by:
  1. Christian Conrad & Menelaos Karanasos & Ning Zeng, 2008. "Multivariate Fractionally Integrated APARCH Modeling of Stock Market Volatility: A multi-country study," Working Papers 0472, University of Heidelberg, Department of Economics, revised Jul 2008.
  2. Christensen, Bent Jesper & Dahl, Christian M. & Iglesias, Emma M., 2012. "Semiparametric inference in a GARCH-in-mean model," Journal of Econometrics, Elsevier, vol. 167(2), pages 458-472.
  3. Zhongjun Qu, 2011. "A Test Against Spurious Long Memory," Journal of Business & Economic Statistics, Taylor & Francis Journals, vol. 29(3), pages 423-438, July.
  4. Jie Zhu, 2008. "FIEGARCH-M and and International Crises: A Cross-Country Analysis," CREATES Research Papers 2008-16, School of Economics and Management, University of Aarhus.
  5. Bent Jesper Christensen & Morten Ørregaard Nielsen & Jie Zhu, 2012. "The impact of financial crises on the risk-return tradeoff and the leverage effect," Working Papers 1295, Queen's University, Department of Economics.
  6. Li, Junye, 2011. "Volatility components, leverage effects, and the return-volatility relations," Journal of Banking & Finance, Elsevier, vol. 35(6), pages 1530-1540, June.
  7. Sun, Yiguo & Hsiao, Cheng & Li, Qi, 2011. "Measuring correlations of integrated but not cointegrated variables: A semiparametric approach," Journal of Econometrics, Elsevier, vol. 164(2), pages 252-267, October.
  8. Tim Bollerslev & Daniela Osterrieder & Natalia Sizova & George Tauchen, 2011. "Risk and Return: Long-Run Relationships, Fractional Cointegration, and Return Predictability," CREATES Research Papers 2011-51, School of Economics and Management, University of Aarhus.
  9. Christensen, Bent Jesper & Nielsen, Morten Ørregaard & Zhu, Jie, 2010. "Long memory in stock market volatility and the volatility-in-mean effect: The FIEGARCH-M Model," Journal of Empirical Finance, Elsevier, vol. 17(3), pages 460-470, June.
  10. Farag, Hisham, 2013. "Price limit bands, asymmetric volatility and stock market anomalies: Evidence from emerging markets," Global Finance Journal, Elsevier, vol. 24(1), pages 85-97.
  11. Bollerslev, Tim & Osterrieder, Daniela & Sizova, Natalia & Tauchen, George, 2013. "Risk and return: Long-run relations, fractional cointegration, and return predictability," Journal of Financial Economics, Elsevier, vol. 108(2), pages 409-424.

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