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Predicting the Daily Covariance Matrix for S&P 100 Stocks Using Intraday Data—But Which Frequency to Use?

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Listed:
  • Michiel de Pooter
  • Martin Martens
  • Dick van Dijk

Abstract

This article investigates the merits of high-frequency intraday data when forming mean-variance efficient stock portfolios with daily rebalancing from the individual constituents of the S&P 100 index. We focus on the issue of determining the optimal sampling frequency as judged by the performance of these portfolios. The optimal sampling frequency ranges between 30 and 65 minutes, considerably lower than the popular five-minute frequency, which typically is motivated by the aim of striking a balance between the variance and bias in covariance matrix estimates due to market microstructure effects such as non-synchronous trading and bid-ask bounce. Bias-correction procedures, based on combining low-frequency and high-frequency covariance matrix estimates and on the addition of leads and lags do not substantially affect the optimal sampling frequency or the portfolio performance. Our findings are also robust to the presence of transaction costs and to the portfolio rebalancing frequency.

Suggested Citation

  • Michiel de Pooter & Martin Martens & Dick van Dijk, 2008. "Predicting the Daily Covariance Matrix for S&P 100 Stocks Using Intraday Data—But Which Frequency to Use?," Econometric Reviews, Taylor & Francis Journals, vol. 27(1-3), pages 199-229.
  • Handle: RePEc:taf:emetrv:v:27:y:2008:i:1-3:p:199-229
    DOI: 10.1080/07474930701873333
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    More about this item

    Keywords

    Bias-correction; High-frequency data; Mean-variance analysis; Realized volatility; Tracking error; Volatility timing;
    All these keywords.

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions

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