Can the Stock Market be Linearized?
AbstractThe evolution of financial markets is a complicated real-world phenomenon that ranks at the top in terms o fdifficulty of modeling and/or prediction. One reason for this difficulty is the well-documented nonlinearity that is inherently at work. The state-of-the-art on the nonlinear modeling of financial returns is given by the popular ARCH (Auto-Regressive Conditional Heteroskedasticity) models and their generalization but they all have their short-comings. Foregoing the goal of finding the "best" model, we propose an exploratory, model-free approach in trying to understand this difficult type of data. In particular, we propose to transform the problem into a more manageable setting such as the setting of linearity. The form and properties of such a transformation are given, and the issue of one-step-ahead prediction using the new approach is explicitly addressed.
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Bibliographic InfoPaper provided by Department of Economics, UC San Diego in its series University of California at San Diego, Economics Working Paper Series with number qt8th5q5hq.
Date of creation: 01 May 2006
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stock market; ARCH; finance;
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- Politis, Dimitris N., 2003. "Model-Free Volatility Prediction," University of California at San Diego, Economics Working Paper Series qt0648834b, Department of Economics, UC San Diego.
- Dimitris N. Politis, 2004. "A Heavy-Tailed Distribution for ARCH Residuals with Application to Volatility Prediction," Annals of Economics and Finance, Society for AEF, vol. 5(2), pages 283-298, November.
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"Generalized autoregressive conditional heteroskedasticity,"
EERI Research Paper Series
EERI RP 1986/01, Economics and Econometrics Research Institute (EERI), Brussels.
- Bollerslev, Tim, 1986. "Generalized autoregressive conditional heteroskedasticity," Journal of Econometrics, Elsevier, vol. 31(3), pages 307-327, April.
- Politis, Dimitris N., 2004. "A heavy-tailed distribution for ARCH residuals with application to volatility prediction," University of California at San Diego, Economics Working Paper Series qt7r89639x, Department of Economics, UC San Diego.
- Benoit Mandelbrot, 1963. "The Variation of Certain Speculative Prices," The Journal of Business, University of Chicago Press, vol. 36, pages 394.
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