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Cross-sectional Dependence in Idiosyncratic Volatility

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  • Ilze KALNINA
  • Kokouvi TEWOU

Abstract

This paper introduces a framework for analysis of cross-sectional dependence in the idiosyncratic volatilities of assets using high frequency data. We first consider the estimation of standard measures of dependence in the idiosyncratic volatilities such as covariances and correlations. Next, we study an idiosyncratic volatility factor model, in which we decompose the co-movements in idiosyncratic volatilities into two parts: those related to factors such as the market volatility, and the residual co-movements. When using high frequency data, naive estimators of all of the above measures are biased due to the estimation errors in idiosyncratic volatility. We provide bias-corrected estimators and establish their asymptotic properties. We apply our estimators to high-frequency data on 27 individual stocks from nine different sectors, and document strong cross-sectional dependence in their idiosyncratic volatilities. We also find that on average 74% of this dependence can be explained by the market volatility.

Suggested Citation

  • Ilze KALNINA & Kokouvi TEWOU, 2015. "Cross-sectional Dependence in Idiosyncratic Volatility," Cahiers de recherche 08-2015, Centre interuniversitaire de recherche en économie quantitative, CIREQ.
    • Handle: RePEc:mtl:montec:08-2015
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    References listed on IDEAS

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    Cited by:

    1. Aït-Sahalia, Yacine & Kalnina, Ilze & Xiu, Dacheng, 2020. "High-frequency factor models and regressions," Journal of Econometrics, Elsevier, vol. 216(1), pages 86-105.
    2. Ilze Kalnina, 2023. "Inference for Nonparametric High-Frequency Estimators with an Application to Time Variation in Betas," Journal of Business & Economic Statistics, Taylor & Francis Journals, vol. 41(2), pages 538-549, April.

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    JEL classification:

    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • C14 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Semiparametric and Nonparametric Methods: General

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