Forecasting Performance of Asymmetric GARCH Stock Market Volatility Models

35 Pages Posted: 4 Dec 2017 Last revised: 5 Dec 2017

Date Written: December 31, 2009

Abstract

We investigate the asymmetry between positive and negative returns in their effect on conditional variance of the stock market index and incorporate the characteristics to form an out-of-sample volatility forecast. Contrary to prior evidence, however, the results in this paper suggest that no asymmetric GARCH model is superior to basic GARCH (1,1) model. It is our prior knowledge that, for equity returns, it is unlikely that positive and negative shocks have the same impact on the volatility. In order to reflect this intuition, we implement three diagnostic tests for volatility models: the Sign Bias Test, the Negative Size Bias Test, and the Positive Size Bias Test and the tests against the alternatives of QGARCH and GJR-GARCH. The asymmetry test results indicate that the sign and the size of the unexpected return shock do not influence current volatility differently which contradicts our presumption that there are asymmetric effects in the stock market volatility. This result is in line with various diagnostic tests which are designed to determine whether the GARCH (1,1) volatility estimates adequately represent the data. The diagnostic tests in section 2 indicate that the GARCH (1,1) model for weekly KOSPI returns is robust to the misspecification test. We also investigate two representative asymmetric GARCH models, QGARCH and GJR-GARCH model, for our out-of-sample forecasting performance. The out-of-sample forecasting ability test reveals that no single model is clearly outperforming. It is seen that the GJR-GARCH and QGARCH model give mixed results in forecasting ability on all four criteria across all forecast horizons considered. Also, the predictive accuracy test of Diebold and Mariano based on both absolute and squared prediction errors suggest that the forecasts from the linear and asymmetric GARCH models need not be significantly different from each other.

Keywords: Asymmetric GARCH Effect, Leverage Effect, KOSPI Return Volatility, EGARCH, GJR-GARCH, PGARCH, Sign Bias Test, Negative Size Bias Test, Positive Size Bias test, Out-of-Sample Forecasting

JEL Classification: F31, F33

Suggested Citation

Lee, Hojin, Forecasting Performance of Asymmetric GARCH Stock Market Volatility Models (December 31, 2009). East Asian Economic Review, Vol. 13, No. 2, pp. 109-142, December 2009. Available at SSRN: https://ssrn.com/abstract=3077748 or http://dx.doi.org/10.2139/ssrn.3077748

Hojin Lee (Contact Author)

Myongji University ( email )

50-3 Namgajwadong
Seodaemungu
Seoul, 120-728

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