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Time-Varying Window Length for Correlation Forecasts

Author

Listed:
  • Yoontae Jeon

    () (Ted Rogers School of Management, Ryerson University, 55 Dundas Street West, Toronto, ON M5G 2C3, Canada)

  • Thomas H. McCurdy

    () (Rotman School of Management, University of Toronto, 105 St. George Street, Toronto, ON M5S 3E6, Canada)

Abstract

Forecasting correlations between stocks and commodities is important for diversification across asset classes and other risk management decisions. Correlation forecasts are affected by model uncertainty, the sources of which can include uncertainty about changing fundamentals and associated parameters (model instability), structural breaks and nonlinearities due, for example, to regime switching. We use approaches that weight historical data according to their predictive content. Specifically, we estimate two alternative models, ‘time-varying weights’ and ‘time-varying window’, in order to maximize the value of past data for forecasting. Our empirical analyses reveal that these approaches provide superior forecasts to several benchmark models for forecasting correlations.

Suggested Citation

  • Yoontae Jeon & Thomas H. McCurdy, 2017. "Time-Varying Window Length for Correlation Forecasts," Econometrics, MDPI, Open Access Journal, vol. 5(4), pages 1-29, December.
  • Handle: RePEc:gam:jecnmx:v:5:y:2017:i:4:p:54-:d:122391
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    References listed on IDEAS

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    More about this item

    Keywords

    model uncertainty; variance and correlation forecasts; time-varying window length;

    JEL classification:

    • B23 - Schools of Economic Thought and Methodology - - History of Economic Thought since 1925 - - - Econometrics; Quantitative and Mathematical Studies
    • C - Mathematical and Quantitative Methods
    • C00 - Mathematical and Quantitative Methods - - General - - - General
    • C01 - Mathematical and Quantitative Methods - - General - - - Econometrics
    • C1 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General
    • C2 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables
    • C3 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables
    • C4 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods: Special Topics
    • C5 - Mathematical and Quantitative Methods - - Econometric Modeling
    • C8 - Mathematical and Quantitative Methods - - Data Collection and Data Estimation Methodology; Computer Programs

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