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Correlation structure of extreme stock returns

Author

Listed:
  • Pierre Cizeau

    (Science & Finance, CFM)

  • Marc Potters

    (Science & Finance, CFM)

  • Jean-Philippe Bouchaud

    (Science & Finance, CFM
    CEA Saclay)

Abstract

It is commonly believed that the correlations between stock returns increase in high volatility periods. We investigate how much of these correlations can be explained within a simple non-Gaussian one-factor description with time independent correlations. Using surrogate data with the true market return as the dominant factor, we show that most of these correlations, measured by a variety of different indicators, can be accounted for. In particular, this one-factor model can explain the level and asymmetry of empirical exceedance correlations. However, more subtle effects require an extension of the one factor model, where the variance and skewness of the residuals also depend on the market return.

Suggested Citation

  • Pierre Cizeau & Marc Potters & Jean-Philippe Bouchaud, 2000. "Correlation structure of extreme stock returns," Papers cond-mat/0006034, arXiv.org, revised Jan 2001.
  • Handle: RePEc:arx:papers:cond-mat/0006034
    as

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    File URL: http://arxiv.org/pdf/cond-mat/0006034
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    References listed on IDEAS

    as
    1. Campbell R. Harvey & Akhtar Siddique, 2000. "Conditional Skewness in Asset Pricing Tests," Journal of Finance, American Finance Association, vol. 55(3), pages 1263-1295, June.
    2. Bekaert, Geert & Wu, Guojun, 2000. "Asymmetric Volatility and Risk in Equity Markets," Review of Financial Studies, Society for Financial Studies, vol. 13(1), pages 1-42.
    3. Fabrizio Lillo & Rosario N. Mantegna, 2000. "Symmetry alteration of ensemble return distribution in crash and rally days of financial markets," Papers cond-mat/0002438, arXiv.org.
    4. Jean-Philippe Bouchaud & Andrew Matacz & Marc Potters, 2001. "The leverage effect in financial markets: retarded volatility and market panic," Science & Finance (CFM) working paper archive 0101120, Science & Finance, Capital Fund Management.
    5. Drożdż, S & Grümmer, F & Górski, A.Z & Ruf, F & Speth, J, 2000. "Dynamics of competition between collectivity and noise in the stock market," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 287(3), pages 440-449.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
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    Cited by:

    1. Matthias Raddant & Friedrich Wagner, 2017. "Transitions in the stock markets of the US, UK and Germany," Quantitative Finance, Taylor & Francis Journals, vol. 17(2), pages 289-297, February.
    2. Fabrizio Lillo & Rosario N. Mantegna & Jean-Philippe Bouchaud & Marc Potters, 2001. "Introducing Variety in Risk Management," Papers cond-mat/0107208, arXiv.org.
    3. Y. Malevergne & D. Sornette, 2002. "Investigating Extreme Dependences: Concepts and Tools," Papers cond-mat/0203166, arXiv.org.
    4. V. Gontis, 2002. "Multiplicative Stochastic Model of the Time Interval between Trades in Financial Markets," Papers cond-mat/0211317, arXiv.org.
    5. Anirban Chakraborti & Ioane Muni Toke & Marco Patriarca & Frederic Abergel, 2011. "Econophysics review: II. Agent-based models," Quantitative Finance, Taylor & Francis Journals, vol. 11(7), pages 1013-1041.
    6. Fiedor, Paweł, 2014. "Sector strength and efficiency on developed and emerging financial markets," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 413(C), pages 180-188.
    7. Jean-Philippe Bouchaud, 2002. "An introduction to statistical finance," Science & Finance (CFM) working paper archive 313238, Science & Finance, Capital Fund Management.
    8. Leonidas Sandoval Junior & Italo De Paula Franca, 2011. "Correlation of financial markets in times of crisis," Papers 1102.1339, arXiv.org, revised Mar 2011.
    9. Anirban Chakraborti & Ioane Muni Toke & Marco Patriarca & Frederic Abergel, 2011. "Econophysics review: I. Empirical facts," Quantitative Finance, Taylor & Francis Journals, vol. 11(7), pages 991-1012.
    10. Marco Airoldi & Vito Antonelli & Bruno Bassetti & Andrea Martinelli & Marco Picariello, 2004. "Long Range Interaction Generating Fat-Tails in Finance," GE, Growth, Math methods 0404006, EconWPA, revised 27 Apr 2004.
    11. Anirban Chakraborti & Ioane Muni Toke & Marco Patriarca & Frédéric Abergel, 2011. "Econophysics review: I. Empirical facts," Post-Print hal-00621058, HAL.
    12. Zura Kakushadze & Willie Yu, 2017. "Open Source Fundamental Industry Classification," Papers 1706.04210, arXiv.org, revised Dec 2017.
    13. Gonzalez-Hermosillo Gonzalez, B.M., 2008. "Transmission of shocks across global financial markets : The role of contagion and investors' risk appetite," Other publications TiSEM d684f3c7-7ad8-4e93-88cf-a, Tilburg University, School of Economics and Management.
    14. Matthias Raddant & Friedrich Wagner, 2016. "Phase transition in the S&P stock market," Journal of Economic Interaction and Coordination, Springer;Society for Economic Science with Heterogeneous Interacting Agents, vol. 11(2), pages 229-246, October.
    15. Bouchaud, Jean-Philippe, 2002. "An introduction to statistical finance," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 313(1), pages 238-251.
    16. Leonidas Sandoval Junior & Italo De Paula Franca, 2011. "Shocks in financial markets, price expectation, and damped harmonic oscillators," Papers 1103.1992, arXiv.org, revised Sep 2011.
    17. Fabrizio Lillo & Giovanni Bonanno & Rosario N. Mantegna, 2001. "Variety of Stock Returns in Normal and Extreme Market Days: The August 1998 Crisis," Papers cond-mat/0104362, arXiv.org.
    18. Sandoval, Leonidas & Franca, Italo De Paula, 2012. "Correlation of financial markets in times of crisis," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 391(1), pages 187-208.

    More about this item

    JEL classification:

    • G1 - Financial Economics - - General Financial Markets
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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