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Diagnosing and Stabilizing Dynamic Correlations in Multivariate Stochastic Volatility Models

Author

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  • Guo, Hongfei
  • Marín, Juan Miguel
  • Veiga, Helena

Abstract

Adding flexibility to a multivariate volatility model can worsen covariance forecasts; we show when, and how to detect it. We decompose the multivariate QLIKE loss into trace, marginal-scale, and correlation log-determinant components; counterfactual block substitutions attribute gains or losses to either part. In Bayesian dynamic-correlation stochastic volatility, the diagnostic yields a sequence: diffuse dynamic correlations can underperform a constant-correlation baseline; a stabilizing prior repairs the correlation component; once stabilized, lagged realized-volatility inputs are the strongest remaining lever, with neural corrections competitive but not dominant. Under a rolling protocol, the stabilized realized-augmented family rivals realized-covariance benchmarks while retaining full predictive densities.

Suggested Citation

  • Guo, Hongfei & Marín, Juan Miguel & Veiga, Helena, 2026. "Diagnosing and Stabilizing Dynamic Correlations in Multivariate Stochastic Volatility Models," DES - Working Papers. Statistics and Econometrics. WS 50561, Universidad Carlos III de Madrid. Departamento de Estadística.
  • Handle: RePEc:cte:wsrepe:50561
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    References listed on IDEAS

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    Keywords

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    JEL classification:

    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods
    • C58 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Financial Econometrics
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation

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