Some Like it Smooth, and Some Like it Rough: Untangling Continuous and Jump Components in Measuring, Modeling, and Forecasting Asset Return Volatility

42 Pages Posted: 1 Dec 2003

See all articles by Torben G. Andersen

Torben G. Andersen

Northwestern University - Kellogg School of Management; National Bureau of Economic Research (NBER); Aarhus University - CREATES

Tim Bollerslev

Duke University - Finance; Duke University - Department of Economics; National Bureau of Economic Research (NBER)

Francis X. Diebold

University of Pennsylvania - Department of Economics; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: September 2003

Abstract

A rapidly growing literature has documented important improvements in volatility measurement and forecasting performance through the use of realized volatilities constructed from high-frequency returns coupled with relatively simple reduced-form time series modeling procedures. Building on recent theoretical results from Barndorff-Nielsen and Shephard (2003c,d) for related bi-power variation measures involving the sum of high-frequency absolute returns, the present paper provides a practical framework for non-parametrically measuring the jump component in realized volatility measurements. Exploiting these ideas for a decade of high-frequency five-minute returns for the DM/$ exchange rate, the S&P500 market index, and the 30-year U.S. Treasury bond yield, we find the jump component of the price process to be distinctly less persistent than the continuous sample path component. Explicitly including the jump measure as an additional explanatory variable in an easy-to-implement reduced form model for realized volatility results in highly significant jump coefficient estimates at the daily, weekly and quarterly forecast horizons. As such, our results hold promise for improved financial asset allocation, risk management, and derivatives pricing, by separate modeling, forecasting and pricing of the continuous and jump components of total return variability.

Keywords: Continuous-time methods, jumps, quadratic variation, realized volatility, bi-power variation, high-frequency data, volatility forecasting, HAR-RV model

JEL Classification: C1, G1

Suggested Citation

Andersen, Torben G. and Bollerslev, Tim and Diebold, Francis X., Some Like it Smooth, and Some Like it Rough: Untangling Continuous and Jump Components in Measuring, Modeling, and Forecasting Asset Return Volatility (September 2003). CFS Working Paper No. 2003/35. Available at SSRN: https://ssrn.com/abstract=473204 or http://dx.doi.org/10.2139/ssrn.473204

Torben G. Andersen

Northwestern University - Kellogg School of Management ( email )

2001 Sheridan Road
Evanston, IL 60208
United States

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Aarhus University - CREATES ( email )

School of Economics and Management
Building 1322, Bartholins Alle 10
DK-8000 Aarhus C
Denmark

Tim Bollerslev

Duke University - Finance ( email )

Durham, NC 27708-0120
United States
919-660-1846 (Phone)
919-684-8974 (Fax)

Duke University - Department of Economics

213 Social Sciences Building
Box 90097
Durham, NC 27708-0204
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Francis X. Diebold (Contact Author)

University of Pennsylvania - Department of Economics ( email )

Ronald O. Perelman Center for Political Science
133 South 36th Street
Philadelphia, PA 19104-6297
United States
215-898-1507 (Phone)
215-573-4217 (Fax)

HOME PAGE: http://www.ssc.upenn.edu/~fdiebold/

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Register to save articles to
your library

Register

Paper statistics

Downloads
352
Abstract Views
3,677
rank
18,978
PlumX Metrics