Financial Density Forecasts: A Comprehensive Comparison of Risk-Neutral and Historical Schemes

Journal of Forecasting. https://doi.org/10.1002/for.2521

25 Pages Posted: 11 Sep 2017 Last revised: 20 Jul 2018

See all articles by Ricardo Crisóstomo

Ricardo Crisóstomo

Comisión Nacional del Mercado de Valores (CNMV); Universidad Nacional de Educacion a Distancia (UNED)

Lorena Couso

Caixa Bank Asset Management

Date Written: December 12, 2017

Abstract

We investigate the forecasting ability of the most commonly used benchmarks in financial economics. We approach the usual caveats of probabilistic forecasts studies – small samples, limited models and non-holistic validations – by performing a comprehensive comparison of 15 predictive schemes during a time period of over 21 years. All densities are evaluated in terms of their statistical consistency, local accuracy and forecasting errors. Using a new composite indicator, the Integrated Forecast Score (IFS), we show that risk-neutral densities outperform historical-based predictions in terms of information content. We find that the Variance Gamma model generates the highest out-of-sample likelihood of observed prices and the lowest predictive errors, whereas the ARCH-based GJR-FHS delivers the most consistent forecasts across the entire density range. In contrast, lognormal densities, the Heston model or the non-parametric Breeden-Litzenberger formula yield biased predictions and are rejected in statistical tests.

Keywords: Probabilistic forecasts, risk-neutral densities, ARCH models, ensemble predictions, model validation

JEL Classification: C14, G12, G13, C52, C53

Suggested Citation

Crisóstomo, Ricardo and Couso, Lorena, Financial Density Forecasts: A Comprehensive Comparison of Risk-Neutral and Historical Schemes (December 12, 2017). Journal of Forecasting. https://doi.org/10.1002/for.2521. Available at SSRN: https://ssrn.com/abstract=3034270 or http://dx.doi.org/10.2139/ssrn.3034270

Ricardo Crisóstomo (Contact Author)

Comisión Nacional del Mercado de Valores (CNMV) ( email )

C/ Edison, 4
Madrid, Madrid 28006
Spain

Universidad Nacional de Educacion a Distancia (UNED)

Calle Bravo Murillo, 38
Madrid, Madrid 28015
Spain

Lorena Couso

Caixa Bank Asset Management ( email )

Spain

Register to save articles to
your library

Register

Paper statistics

Downloads
88
rank
281,638
Abstract Views
461
PlumX Metrics