Bolstering the Modelling and Forecasting of Realized Covariance Matrices using (Directional) Common Jumps

39 Pages Posted: 12 Jan 2021 Last revised: 8 Jul 2021

See all articles by Rodrigo Hizmeri

Rodrigo Hizmeri

University of Liverpool - Management School (ULMS)

Marwan Izzeldin

Lancaster University Management School

Ingmar Nolte

Lancaster University - Department of Accounting and Finance

Date Written: July 03, 2021

Abstract

This paper proposes a robust framework for disentangling undiversifiable common jumps within the realized covariance matrix. Simultaneous jumps detected in our empirical study are strongly related to major financial and economic news, and their occurrence raises correlation and persistence among assets. Our application to 20 Dow Jones stocks, shows that common jumps and directional common jumps substantially improve the in- and out-of-sample forecasts of the realized covariances at the day-, week- and month-horizon. Applying these new specifications to minimum variance portfolios results in superior positions from reduced turnover. The implication is that investors willingly sacrifice up to 100 annual basis points in switching to those strategies.

Keywords: Common Jumps, Directional Common Jumps, Realized Covariances, Forecasting, Asset Allocation, Portfolio Construction

JEL Classification: C14; C32, C58, G11, G32

Suggested Citation

Hizmeri, Rodrigo and Izzeldin, Marwan and Nolte, Ingmar, Bolstering the Modelling and Forecasting of Realized Covariance Matrices using (Directional) Common Jumps (July 03, 2021). Available at SSRN: https://ssrn.com/abstract=3745671 or http://dx.doi.org/10.2139/ssrn.3745671

Rodrigo Hizmeri (Contact Author)

University of Liverpool - Management School (ULMS) ( email )

Chatham St.
Liverpool, L69 7ZH
United Kingdom

HOME PAGE: http://www.rodrigohizmeri.com

Marwan Izzeldin

Lancaster University Management School ( email )

Lancaster, LA1 4YX
United Kingdom
01524 594674 (Phone)

HOME PAGE: http://www.lums.lancs.ac.uk/profiles/marwan-izzeldin/

Ingmar Nolte

Lancaster University - Department of Accounting and Finance ( email )

Lancaster, Lancashire LA1 4YX
United Kingdom

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