IDEAS home Printed from https://ideas.repec.org/
MyIDEAS: Login to save this paper

What does financial volatility tell us about macroeconomic fluctuations?

  • Marcelle Chauvet
  • Zeynep Senyuz
  • Emre Yoldas

This paper provides an extensive analysis of the predictive ability of financial volatility measures for economic activity. We construct monthly measures of aggregated and industry-level stock volatility, and bond market volatility from daily returns. We model log financial volatility as composed of a long-run component that is common across all series, and a short-run component. If volatility has components, volatility proxies are characterized by large measurement error, which veils analysis of their fundamental information and relationship with the economy. We find that there are substantial gains from using the long term component of the volatility measures for linearly projecting future economic activity, as well as for forecasting business cycle turning points. When we allow for asymmetry in the long-run volatility component, we find that it provides early signals of upcoming recessions. In a real-time out-of-sample analysis of the last recession, we find that these signals are concomitant with the first signs of distress in the financial markets due to problems in the housing sector around mid-2007 and the implied chronology is consistent with the crisis timeline.

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

File URL: http://www.federalreserve.gov/pubs/feds/2012/201209/201209abs.html
Download Restriction: no

File URL: http://www.federalreserve.gov/pubs/feds/2012/201209/201209pap.pdf
Download Restriction: no

Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series Finance and Economics Discussion Series with number 2012-09.

as
in new window

Length:
Date of creation: 2012
Date of revision:
Handle: RePEc:fip:fedgfe:2012-09
Contact details of provider: Postal:
20th Street and Constitution Avenue, NW, Washington, DC 20551

Web page: http://www.federalreserve.gov/

More information through EDIRC

Order Information: Web: http://www.federalreserve.gov/pubs/feds/fedsorder.html

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

as in new window
  1. Lawrence J. Christiano & Roberto Motto & Massimo Rostagno, 2014. "Risk Shocks," American Economic Review, American Economic Association, vol. 104(1), pages 27-65, January.
  2. Andrew Ang & Monika Piazzesi & Min Wei, 2004. "What Does the Yield Curve Tell us about GDP Growth?," NBER Working Papers 10672, National Bureau of Economic Research, Inc.
  3. Elena Andreou & Eric Ghysels & Andros Kourtellos, 2010. "Should Macroeconomic Forecasters Use Daily Financial Data and How?," Working Paper Series 42_10, The Rimini Centre for Economic Analysis.
  4. Fabio Fornari & Antonio Mele, 2009. "Financial volatility and economic activity," LSE Research Online Documents on Economics 29309, London School of Economics and Political Science, LSE Library.
  5. Nicholas Bloom & Max Floetotto & Nir Jaimovich & Itay Saporta-Eksten & Stephen Terry, 2013. "Really uncertain business cycles," LSE Research Online Documents on Economics 51526, London School of Economics and Political Science, LSE Library.
  6. Andreou, Elena & Osborn, Denise R & Sensier, Marianne, 2000. "A Comparison of the Statistical Properties of Financial Variables in the USA, UK and Germany over the Business Cycle," Manchester School, University of Manchester, vol. 68(4), pages 396-418, Special I.
  7. Bakshi, Gurdip & Panayotov, George & Skoulakis, Georgios, 2011. "Improving the predictability of real economic activity and asset returns with forward variances inferred from option portfolios," Journal of Financial Economics, Elsevier, vol. 100(3), pages 475-495, June.
  8. Fama, Eugene F, 1990. " Stock Returns, Expected Returns, and Real Activity," Journal of Finance, American Finance Association, vol. 45(4), pages 1089-1108, September.
  9. John Y. Campbell & John H. Cochrane, 1995. "By Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior," NBER Working Papers 4995, National Bureau of Economic Research, Inc.
  10. Lawrence J. Christiano & Terry J. Fitzgerald, 2003. "The Band Pass Filter," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 44(2), pages 435-465, 05.
  11. Maheu, John M & McCurdy, Thomas H, 2000. "Identifying Bull and Bear Markets in Stock Returns," Journal of Business & Economic Statistics, American Statistical Association, vol. 18(1), pages 100-112, January.
  12. Kim, Chang-Jin, 1994. "Dynamic linear models with Markov-switching," Journal of Econometrics, Elsevier, vol. 60(1-2), pages 1-22.
  13. Linda Allen & Turan G. Bali & Yi Tang, 2012. "Does Systemic Risk in the Financial Sector Predict Future Economic Downturns?," Review of Financial Studies, Society for Financial Studies, vol. 25(10), pages 3000-3036.
  14. West, Kenneth D, 1996. "Asymptotic Inference about Predictive Ability," Econometrica, Econometric Society, vol. 64(5), pages 1067-84, September.
  15. Allan Timmermann & Massimo Guidolin, 2006. "An econometric model of nonlinear dynamics in the joint distribution of stock and bond returns," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 21(1), pages 1-22.
  16. William Schwert, G., 1989. "Business cycles, financial crises, and stock volatility : Reply to Shiller," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 31(1), pages 133-137, January.
  17. Arturo Estrella & Frederic S. Mishkin, 1995. "Predicting U.S. Recessions: Financial Variables as Leading Indicators," NBER Working Papers 5379, National Bureau of Economic Research, Inc.
  18. Ben Bernanke & Mark Gertler & Simon Gilchrist, 1998. "The Financial Accelerator in a Quantitative Business Cycle Framework," NBER Working Papers 6455, National Bureau of Economic Research, Inc.
  19. Whitelaw, Robert F, 1994. " Time Variations and Covariations in the Expectation and Volatility of Stock Market Returns," Journal of Finance, American Finance Association, vol. 49(2), pages 515-41, June.
  20. Tobias Adrian & Joshua Rosenberg, 2008. "Stock Returns and Volatility: Pricing the Short-Run and Long-Run Components of Market Risk," Journal of Finance, American Finance Association, vol. 63(6), pages 2997-3030, December.
  21. Andersen T. G & Bollerslev T. & Diebold F. X & Labys P., 2001. "The Distribution of Realized Exchange Rate Volatility," Journal of the American Statistical Association, American Statistical Association, vol. 96, pages 42-55, March.
  22. Ambrogio Cesa-Bianchi & M. Hashem Pesaran & Alessandro Rebucci, 2014. "Uncertainty and Economic Activity: A Global Perspective," CESifo Working Paper Series 4736, CESifo Group Munich.
  23. Arturo Estrella & Gikas A. Hardouvelis, 1989. "The term structure as a predictor of real economic activity," Research Paper 8907, Federal Reserve Bank of New York.
  24. Marcelle Chauvet & James D. Hamilton, 2005. "Dating Business Cycle Turning Points," NBER Working Papers 11422, National Bureau of Economic Research, Inc.
  25. Newey, Whitney K & West, Kenneth D, 1987. "A Simple, Positive Semi-definite, Heteroskedasticity and Autocorrelation Consistent Covariance Matrix," Econometrica, Econometric Society, vol. 55(3), pages 703-08, May.
  26. Clark, Todd E. & McCracken, Michael W., 2009. "Tests of Equal Predictive Ability With Real-Time Data," Journal of Business & Economic Statistics, American Statistical Association, vol. 27(4), pages 441-454.
  27. Mikhail Chernov & A. Ronald Gallant & Eric Ghysels & George Tauchen, 2002. "Alternative Models for Stock Price Dynamics," CIRANO Working Papers 2002s-58, CIRANO.
  28. Diebold, Francis X & Mariano, Roberto S, 2002. "Comparing Predictive Accuracy," Journal of Business & Economic Statistics, American Statistical Association, vol. 20(1), pages 134-44, January.
  29. Jon Faust & Simon Gilchrist & Jonathan H. Wright & Egon Zakrajsek, 2012. "Credit spreads as predictors of real-time economic activity: a Bayesian Model-Averaging approach," Finance and Economics Discussion Series 2012-77, Board of Governors of the Federal Reserve System (U.S.).
  30. Margaret M. McConnell & Gabriel Perez Quiros, 1998. "Output fluctuations in the United States: what has changed since the early 1980s?," Staff Reports 41, Federal Reserve Bank of New York.
  31. Hamilton, James D, 1989. "A New Approach to the Economic Analysis of Nonstationary Time Series and the Business Cycle," Econometrica, Econometric Society, vol. 57(2), pages 357-84, March.
  32. Chauvet, Marcelle & Potter, Simon, 2000. "Coincident and leading indicators of the stock market," Journal of Empirical Finance, Elsevier, vol. 7(1), pages 87-111, May.
  33. Schwert, G. William, 1989. "Business cycles, financial crises, and stock volatility," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 31(1), pages 83-125, January.
  34. Gurkaynak, Refet S. & Sack, Brian & Wright, Jonathan H., 2007. "The U.S. Treasury yield curve: 1961 to the present," Journal of Monetary Economics, Elsevier, vol. 54(8), pages 2291-2304, November.
  35. James H. Stock & Mark W. Watson, 2001. "Forecasting Output and Inflation: The Role of Asset Prices," NBER Working Papers 8180, National Bureau of Economic Research, Inc.
  36. Simon Gilchrist & Egon Zakrajšek, 2011. "Credit Spreads and Business Cycle Fluctuations," NBER Working Papers 17021, National Bureau of Economic Research, Inc.
  37. Torben G. Andersen & Tim Bollerslev & Francis X. Diebold & Jin Wu, 2005. "A Framework for Exploring the Macroeconomic Determinants of Systematic Risk," American Economic Review, American Economic Association, vol. 95(2), pages 398-404, May.
  38. Robert F. Engle & Jose Gonzalo Rangel, 2008. "The Spline-GARCH Model for Low-Frequency Volatility and Its Global Macroeconomic Causes," Review of Financial Studies, Society for Financial Studies, vol. 21(3), pages 1187-1222, May.
  39. John Y. Campbell & Martin Lettau & Burton G. Malkiel & Yexiao Xu, 2000. "Have Individual Stocks Become More Volatile? An Empirical Exploration of Idiosyncratic Risk," NBER Working Papers 7590, National Bureau of Economic Research, Inc.
  40. Clark, Todd E. & McCracken, Michael W., 2012. "In-sample tests of predictive ability: A new approach," Journal of Econometrics, Elsevier, vol. 170(1), pages 1-14.
  41. Ferson, Wayne E & Harvey, Campbell R, 1991. "The Variation of Economic Risk Premiums," Journal of Political Economy, University of Chicago Press, vol. 99(2), pages 385-415, April.
  42. Anderson, Torben G. & Bollerslev, Tim & Diebold, Francis X. & Labys, Paul, 2002. "Modeling and Forecasting Realized Volatility," Working Papers 02-12, Duke University, Department of Economics.
  43. Ding, Zhuanxin & Granger, Clive W. J., 1996. "Modeling volatility persistence of speculative returns: A new approach," Journal of Econometrics, Elsevier, vol. 73(1), pages 185-215, July.
  44. Mele, Antonio, 2007. "Asymmetric stock market volatility and the cyclical behavior of expected returns," Journal of Financial Economics, Elsevier, vol. 86(2), pages 446-478, November.
  45. Nicholas Bloom, 2007. "The Impact of Uncertainty Shocks," NBER Working Papers 13385, National Bureau of Economic Research, Inc.
  46. Chauvet, Marcelle, 1998. "An Econometric Characterization of Business Cycle Dynamics with Factor Structure and Regime Switching," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 39(4), pages 969-96, November.
  47. Bollerslev, Tim & Zhou, Hao, 2002. "Estimating stochastic volatility diffusion using conditional moments of integrated volatility," Journal of Econometrics, Elsevier, vol. 109(1), pages 33-65, July.
  48. Poterba, James M & Summers, Lawrence H, 1986. "The Persistence of Volatility and Stock Market Fluctuations," American Economic Review, American Economic Association, vol. 76(5), pages 1142-51, December.
  49. Ferrara, L. & Marsilli, C. & Ortega, J-P., 2013. "Forecasting growth during the Great Recession: is financial volatility the missing ingredient?," Working papers 454, Banque de France.
  50. Senyuz, Zeynep, 2009. "Factor Analysis of Permanent and Transitory Dynamics of the U.S. Economy and the Stock Market," MPRA Paper 26855, University Library of Munich, Germany, revised Mar 2010.
  51. Andersen, Torben G. & Bollerslev, Tim & Diebold, Francis X. & Ebens, Heiko, 2001. "The distribution of realized stock return volatility," Journal of Financial Economics, Elsevier, vol. 61(1), pages 43-76, July.
  52. Schwert, G William, 1989. " Why Does Stock Market Volatility Change over Time?," Journal of Finance, American Finance Association, vol. 44(5), pages 1115-53, December.
  53. Basak, Suleyman & Cuoco, Domenico, 1998. "An Equilibrium Model with Restricted Stock Market Participation," Review of Financial Studies, Society for Financial Studies, vol. 11(2), pages 309-41.
  54. French, Kenneth R. & Schwert, G. William & Stambaugh, Robert F., 1987. "Expected stock returns and volatility," Journal of Financial Economics, Elsevier, vol. 19(1), pages 3-29, September.
Full references (including those not matched with items on IDEAS)

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

When requesting a correction, please mention this item's handle: RePEc:fip:fedgfe:2012-09. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Marlene Vikor)

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.

This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.