On Long Memory Behaviour and Predictability of Financial Markets

SEF Working paper: 05/2014

33 Pages Posted: 16 May 2017  

Long Hai Vo

Economics discipline, UWA Business School

Leigh Roberts

Victoria University of Wellington - School of Economics & Finance

Date Written: May 8, 2014

Abstract

An immediate consequence of the Efficient Market Hypothesis (EMH) is the absence of auto-correlation of the return series of the financial prices and the exclusion of excess profitability made by any (active) trading strategy. However, the precondition for the validity of EMH, which assumes that all market participants can promptly receive and rationally react to the relevant information affecting the prices, might be (approximately) true for a long time horizon, but not for a short time horizon. By examining local long-range dependence (measured by the rolling Rescaled Range estimates of the Hurst index) of an empirical example, the local market inefficiency is inferred, and excess profitability of a simple trend-following trading strategy is observed. Moreover, the significant positive cross-correlation between the local Hurst index estimates and the returns of the trend-following trading strategies implies the potential for constructing a more profitable trading system by incorporating the former into the latter.

Keywords: High-frequency trading, Hurst index, Long memory, Market efficiency, Rescaled range analysis, Trading system

JEL Classification: G17, G20, C13

Suggested Citation

Vo, Long Hai and Roberts, Leigh, On Long Memory Behaviour and Predictability of Financial Markets (May 8, 2014). SEF Working paper: 05/2014 . Available at SSRN: https://ssrn.com/abstract=2968753 or http://dx.doi.org/10.2139/ssrn.2968753

Long Hai Vo (Contact Author)

Economics discipline, UWA Business School ( email )

Nedlands, Western Australia 6907
Australia
61 8 6488 5651 (Phone)

Leigh Roberts

Victoria University of Wellington - School of Economics & Finance ( email )

P.O. Box 600
Wellington 6140
New Zealand

Paper statistics

Downloads
60
Rank
301,074
Abstract Views
345