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Realized volatility forecasting and market microstructure noise

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Listed author(s):
  • Andersen, Torben G.
  • Bollerslev, Tim
  • Meddahi, Nour

Abstract

We extend the analytical results for reduced form realized volatility based forecasting in ABM (2004) to allow for market microstructure frictions in the observed high-frequency returns. Our results build on the eigenfunction representation of the general stochastic volatility class of models developed byMeddahi (2001). In addition to traditional realized volatility measures and the role of the underlying sampling frequencies, we also explore the forecasting performance of several alternative volatility measures designed to mitigate the impact of the microstructure noise. Our analysis is facilitated by a simple unified quadratic form representation for all these estimators. Our results suggest that the detrimental impact of the noise on forecast accuracy can be substantial. Moreover, the linear forecasts based on a simple-to-implement 'average' (or 'subsampled') estimator obtained by averaging standard sparsely sampled realized volatility measures generally perform on par with the best alternative robust measures.

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File URL: http://www.sciencedirect.com/science/article/pii/S0304-4076(10)00074-6
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Article provided by Elsevier in its journal Journal of Econometrics.

Volume (Year): 160 (2011)
Issue (Month): 1 (January)
Pages: 220-234

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Handle: RePEc:eee:econom:v:160:y:2011:i:1:p:220-234
Contact details of provider: Web page: http://www.elsevier.com/locate/jeconom

Keywords: Volatility forecasting High-frequency data Market microstructure noise Integrated volatility Realized volatility Robust volatility measures Eigenfunction stochastic volatility models;

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