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Value-at-risk estimation with wavelet-based extreme value theory: Evidence from emerging markets

  • Cifter, Atilla

This paper introduces wavelet-based extreme value theory (EVT) for univariate value-at-risk estimation. Wavelets and EVT are combined for volatility forecasting to estimate a hybrid model. In the first stage, wavelets are used as a threshold in generalized Pareto distribution, and in the second stage, EVT is applied with a wavelet-based threshold. This new model is applied to two major emerging stock markets: the Istanbul Stock Exchange (ISE) and the Budapest Stock Exchange (BUX). The relative performance of wavelet-based EVT is benchmarked against the Riskmetrics-EWMA, ARMA–GARCH, generalized Pareto distribution, and conditional generalized Pareto distribution models. The empirical results show that the wavelet-based extreme value theory increases predictive performance of financial forecasting according to number of violations and tail-loss tests. The superior forecasting performance of the wavelet-based EVT model is also consistent with Basel II requirements, and this new model can be used by financial institutions as well.

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Article provided by Elsevier in its journal Physica A: Statistical Mechanics and its Applications.

Volume (Year): 390 (2011)
Issue (Month): 12 ()
Pages: 2356-2367

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Handle: RePEc:eee:phsmap:v:390:y:2011:i:12:p:2356-2367
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