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A Robust Criterion for Determining the Number of Static Factors in Approximate Factor Models

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  • Lucia Alessi
  • Matteo Barigozzi
  • Marco Capasso

Abstract

We propose a refinement of the criterion by Bai and Ng [2002] for determining the number of static factors in factor models with large datasets. It consists in multiplying the penalty function times a constant which tunes the penalizing power of the function itself as in the Hallin and Liska [2007] criterion for the number of dynamic factors. By iteratively evaluating the criterion for different values of this constant, we achieve more robust results than in the case of fixed penalty function. This is shown by means of Monte Carlo simulations on seven data generating processes, including heteroskedastic processes, on samples of different size.

Suggested Citation

  • Lucia Alessi & Matteo Barigozzi & Marco Capasso, 2007. "A Robust Criterion for Determining the Number of Static Factors in Approximate Factor Models," LEM Papers Series 2007/19, Laboratory of Economics and Management (LEM), Sant'Anna School of Advanced Studies, Pisa, Italy.
    • Handle: RePEc:ssa:lemwps:2007/19
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    1. Kapetanios, George, 2010. "A Testing Procedure for Determining the Number of Factors in Approximate Factor Models With Large Datasets," Journal of Business & Economic Statistics, American Statistical Association, vol. 28(3), pages 397-409.
    2. Jushan Bai & Serena Ng, 2002. "Determining the Number of Factors in Approximate Factor Models," Econometrica, Econometric Society, vol. 70(1), pages 191-221, January.
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    4. Forni, Mario & Giannone, Domenico & Lippi, Marco & Reichlin, Lucrezia, 2009. "Opening The Black Box: Structural Factor Models With Large Cross Sections," Econometric Theory, Cambridge University Press, vol. 25(5), pages 1319-1347, October.
    5. Forni, Mario & Hallin, Marc & Lippi, Marco & Reichlin, Lucrezia, 2005. "The Generalized Dynamic Factor Model: One-Sided Estimation and Forecasting," Journal of the American Statistical Association, American Statistical Association, vol. 100, pages 830-840, September.
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    7. Amengual, Dante & Watson, Mark W., 2007. "Consistent Estimation of the Number of Dynamic Factors in a Large N and T Panel," Journal of Business & Economic Statistics, American Statistical Association, vol. 25, pages 91-96, January.
    8. Hallin, Marc & Liska, Roman, 2007. "Determining the Number of Factors in the General Dynamic Factor Model," Journal of the American Statistical Association, American Statistical Association, vol. 102, pages 603-617, June.
    9. Lucia Alessi & Matteo Barigozzi & Marco Capasso, 2006. "Dynamic Factor GARCH: Multivariate Volatility Forecast for a Large Number of Series," LEM Papers Series 2006/25, Laboratory of Economics and Management (LEM), Sant'Anna School of Advanced Studies, Pisa, Italy.
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    2. GUO-FITOUSSI, Liang, 2013. "A Comparison of the Finite Sample Properties of Selection Rules of Factor Numbers in Large Datasets," MPRA Paper 50005, University Library of Munich, Germany.
    3. Matteo Luciani, 2015. "Monetary Policy and the Housing Market: A Structural Factor Analysis," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 30(2), pages 199-218, March.
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    8. Gao, Quansheng & Hu, Chengjun, 2009. "Dynamic mortality factor model with conditional heteroskedasticity," Insurance: Mathematics and Economics, Elsevier, vol. 45(3), pages 410-423, December.
    9. Dzhamilya Abuzyarova & Veronika Belousova & Zhaklin Krayushkina & Yulia Lonshcikova & Ekaterina Nikiforova & Nikolay Chichkanov, 2019. "The Role of Human Capital in Science, Technology and Innovation," Foresight and STI Governance (Foresight-Russia till No. 3/2015), National Research University Higher School of Economics, vol. 13(2), pages 107-119.
    10. Pallara, Kevin, 2016. "The dynamic effects of government spending: a FAVAR approach," MPRA Paper 92283, University Library of Munich, Germany.
    11. Alain Kabundi & Francisco Nadal De Simone, 2011. "France in the global economy: a structural approximate dynamic factor model analysis," Empirical Economics, Springer, vol. 41(2), pages 311-342, October.
    12. Alain Kabundi & Tumisang Loate & Nicola Viegi, 2020. "Spillovers of the Conventional and Unconventional Monetary Policy from the US to South Africa," South African Journal of Economics, Economic Society of South Africa, vol. 88(4), pages 435-471, December.
    13. Enrique López E. & Fernando Tenjo Galarza & Diego H. Rodríguez H., 2012. "El canal de préstamos de la política monetaria en Colombia. Un enfoque FAVAR," Revista ESPE - Ensayos Sobre Política Económica, Banco de la República, vol. 30(69), pages 195-256, December.
    14. Jin, Xisong & Nadal De Simone, Francisco, 2020. "Monetary policy and systemic risk-taking in the Euro area investment fund industry: A structural factor-augmented vector autoregression analysis," Journal of Financial Stability, Elsevier, vol. 49(C).
    15. Le, Vu & Wang, Qing, 2014. "Robust thresholding for Diffusion Index forecast," Economics Letters, Elsevier, vol. 125(1), pages 52-56.
    16. Enrique López E. & Fernando Tenjo Galarza & Diego H. Rodríguez H., 2012. "El canal de préstamos de la política monetaria en Colombia. Un enfoque FAVAR," Revista ESPE - Ensayos Sobre Política Económica, Banco de la República, vol. 30(69), pages 195-256, December.
    17. Vedolin, Andrea, 2012. "Uncertainty and leveraged Lucas Trees: the cross section of equilibrium volatility risk premia," LSE Research Online Documents on Economics 43091, London School of Economics and Political Science, LSE Library.
    18. Xisong Jin & Francisco Nadal De Simone, 2012. "An Early-warning and Dynamic Forecasting Framework of Default Probabilities for the Macroprudential Policy Indicators Arsenal," BCL working papers 75, Central Bank of Luxembourg.
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    More about this item

    Keywords

    Approximate factor models; Information criterion; Number of Factors;
    All these keywords.

    JEL classification:

    • C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation, Validation, and Selection

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