The Reactive Volatility Model
15 Pages Posted: 8 Aug 2012
Date Written: July 1, 2012
We present a new volatility model, simple to implement, that combines various attractive features such as an exponential moving average of the price and a leverage effect. This model is able to capture the so-called 'panic effect', which occurs whenever systematic risk becomes the dominant factor. Consequently, in contrast to other models, this new model is as reactive as the implied volatility indices. We also test the reactivity of our model using extreme events taken from the 470 most liquid European stocks over the last decade. We show that the reactive volatility model is more robust to extreme events, and it allows for the identification of precursors and replicas of extreme events.
Keywords: volatility, tail event, risk management, asset pricing
JEL Classification: C5, G01, G1, G32
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