The Non-Misleading Value of Inferred Correlation: An Introduction to the Cointelation Model

Wilmott, Volume 2013, Issue 67, pages 50-61, September 2013

11 Pages Posted: 26 Apr 2014 Last revised: 21 May 2014

Babak Mahdavi-Damghani

University of Oxford - Oxford-Man Institute of Quantitative Finance

Date Written: 2013

Abstract

This paper comes together with growing evidence for power law-type scaling of correlation with time, a concept rooted in the original study by Benoit Mandelbrot on concentration of risk. We complete the cointelation model recently introduced via a statistical test, which uses measured correlation in different time gaps. We also provide an approximation of the expectation in the change in measured correlation via these various time steps and use our findings in order to introduce the concept of inferred correlation and the term structure of correlation. We finally illustrate our findings through the example of the relation between oil and BP, and present a few potential applications in the financial industry.

Keywords: cointelation; inferred correlation; measured correlation; cointegration; correlation term structure

Suggested Citation

Mahdavi-Damghani, Babak, The Non-Misleading Value of Inferred Correlation: An Introduction to the Cointelation Model (2013). Wilmott, Volume 2013, Issue 67, pages 50-61, September 2013. Available at SSRN: https://ssrn.com/abstract=2429120

Babak Mahdavi-Damghani (Contact Author)

University of Oxford - Oxford-Man Institute of Quantitative Finance ( email )

Eagle House
Walton Well Road
Oxford, Oxfordshire OX2 6ED
United Kingdom

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