Fact or friction: Jumps at ultra high frequency
AbstractIn this paper, we demonstrate that jumps in financial asset prices are not nearly as common as generally thought, and that they account for only a very small proportion of total return variation. We base our investigation on an extensive set of ultra high-frequency equity and foreign exchange rate data recorded at milli-second precision, allowing us to view the price evolution at a microscopic level. We show that both in theory and practice, traditional measures of jump variation based on low-frequency tick data tend to spuriously attribute a burst of volatility to the jump component thereby severely overstating the true variation coming from jumps. Indeed, our estimates based on tick data suggest that the jump variation is an order of magnitude smaller. This finding has a number of important implications for asset pricing and risk management and we illustrate this with a delta hedging example of an option trader that is short gamma. Our econometric analysis is build around a pre-averaging theory that allows us to work at the highest available frequency, where the data are polluted bymicrostructure noise. We extend the theory in a number of directions important for jump estimation and testing. This also reveals that pre-averaging has a built-in robustness property to outliers in high-frequency data, and allows us to show that some of the few remaining jumps at tick frequency are in fact induced by data-cleaning routines aimed at removing the outliers.
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Bibliographic InfoPaper provided by School of Economics and Management, University of Aarhus in its series CREATES Research Papers with number 2011-19.
Date of creation: 26 May 2011
Date of revision:
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Web page: http://www.econ.au.dk/afn/
jump variation; high-frequency data; market microstructure noise; pre-averaging; realised variation; outliers.;
Find related papers by JEL classification:
- C10 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - General
- C80 - Mathematical and Quantitative Methods - - Data Collection and Data Estimation Methodology; Computer Programs - - - General
This paper has been announced in the following NEP Reports:
- NEP-ALL-2011-06-04 (All new papers)
- NEP-ECM-2011-06-04 (Econometrics)
- NEP-ETS-2011-06-04 (Econometric Time Series)
- NEP-MST-2011-06-04 (Market Microstructure)
- NEP-RMG-2011-06-04 (Risk Management)
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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- repec:oxf:wpaper:264 is not listed on IDEAS
- Dungey, Mardi & Henry, Olan T & Hvodzdyk, Lyudmyla, 2013. "The impact of jumps and thin trading on realized hedge ratios," Working Papers 2013-02, University of Tasmania, School of Economics and Finance, revised 28 Mar 2013.
- Gilder, Dudley & Shackleton, Mark B. & Taylor, Stephen J., 2014. "Cojumps in stock prices: Empirical evidence," Journal of Banking & Finance, Elsevier, vol. 40(C), pages 443-459.
- Jan Novotný & Jan Hanousek & Evžen Kočenda, 2013. "Price Jump Indicators: Stock Market Empirics During the Crisis," William Davidson Institute Working Papers Series wp1050, William Davidson Institute at the University of Michigan.
- Rasmus Tangsgaard Varneskov, 2011. "Generalized Flat-Top Realized Kernel Estimation of Ex-Post Variation of Asset Prices Contaminated by Noise," CREATES Research Papers 2011-31, School of Economics and Management, University of Aarhus.
- Almut E. D. Veraart, 2010.
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- Almut Veraart, 2011. "How precise is the finite sample approximation of the asymptotic distribution of realised variation measures in the presence of jumps?," AStA Advances in Statistical Analysis, Springer, vol. 95(3), pages 253-291, September.
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