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Conditional jumps in volatility and their economic determinants

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  • Massimiliano Caporin

    ()
    (University of Padova)

  • Eduardo Rossi

    ()
    (University of Pavia)

  • Paolo Santucci de Magistris

    ()
    (University of Aarhus)

Abstract

The volatility of financial returns is affected by rapid and large increments. Such movements can be hardly generated by a pure diffusive process for stochastic volatility. On the contrary jumps in volatility are important because they allow for rapid increases, like those observed during stock market crashes. We propose an extension of HAR model for estimating the presence of jumps in volatility, using the realized-range measure as a volatility proxy. By focusing on a set of 36 NYSE stocks, we show that, once that squared jumps in prices are disentangled from integrated variance, then there is a positive probability of jumps in volatility, conditional on the past information set. We then focus on the contribution of jumps during periods of financial turmoil. We analyze the dependence between the first principal component of the volatility jumps with a set of financial covariates including VIX, S&P500 volume, CDS, and Federal Fund rates. We observe that CDS captures large part of the expected jumps moves, verifying the common interpretation that large and sudden increases in volatility in stock markets over some days in the recent financial crisis have been caused by credit deterioration of US bank sector. Finally, we extend the model incorporating the credit-default swap in the dynamics of the jump size and intensity. The estimates confirm the significant contribution of the credit-default swap to the dynamics of the volatility jump size.

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Bibliographic Info

Paper provided by Dipartimento di Scienze Economiche "Marco Fanno" in its series "Marco Fanno" Working Papers with number 0138.

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Length: 43 pages
Date of creation: Sep 2011
Date of revision:
Handle: RePEc:pad:wpaper:0138

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Keywords: Volatility; Jumps in volatility; Realized range; HAR.;

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References

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  1. Rangel, José Gonzalo, 2011. "Macroeconomic news, announcements, and stock market jump intensity dynamics," Journal of Banking & Finance, Elsevier, Elsevier, vol. 35(5), pages 1263-1276, May.
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  4. Benjamin Yibin Zhang & Hao Zhou & Haibin Zhu, 2005. "Explaining credit default swap spreads with the equity volatility and jump risks of individual firms," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 2005-63, Board of Governors of the Federal Reserve System (U.S.).
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Cited by:
  1. Jan Hanousek & Evzen Kocenda & Jan Novotny, 2014. "Price jumps on European stock markets," Borsa Istanbul Review, Research and Business Development Department, Borsa Istanbul, vol. 14(1), pages 10-22, March.
  2. 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.

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