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Hidden noise structure and random matrix models of stock correlations

Listed author(s):
  • Ivailo I. Dimov
  • Petter N. Kolm
  • Lee Maclin
  • Dan Y. C. Shiber
Registered author(s):

    We find a novel correlation structure in the residual noise of stock market returns that is remarkably linked to the composition and stability of the top few significant factors driving the returns, and, moreover, indicates that the noise band is composed of multiple sub-bands that do not fully mix. Our findings allow us to construct effective generalized random matrix theory market models that are closely related to correlation and eigenvector clustering. We show how to use these models in a simulation that incorporates heavy tails. Finally, we demonstrate how a subtle purely stationary risk estimation bias can arise in the conventional cleaning prescription.

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    Article provided by Taylor & Francis Journals in its journal Quantitative Finance.

    Volume (Year): 12 (2012)
    Issue (Month): 4 (November)
    Pages: 567-572

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    Handle: RePEc:taf:quantf:v:12:y:2012:i:4:p:567-572
    DOI: 10.1080/14697688.2012.664931
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