High Dimensional Covariance Forecasting for Short Intra-Day Horizons
Quantitative Finance, Vol. 10, No. 10, pp. 1173-1185, 2010
22 Pages Posted: 10 May 2009 Last revised: 29 Oct 2010
Date Written: May 1, 2009
Asset return covariances at intra-day horizons are known to be biased towards zero due to market microstructure effects. Thus, traders who simply scale their daily covariance forecast to match their trading horizon, are likely to over-estimate the actual experienced asset dependence. In this paper we discuss some of the key challenges encountered when forecasting high dimensional covariance matrices for short intra-day horizons. Based on a novel evaluation methodology, and extensive empirical analysis, we make specific recommendations regarding model design and data sampling.
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