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Solutions Pset2
Solutions Pset2
Return Horizon
t-stat
R2
1 year
3.23
2.17
0.06
2 year
6.29
2.84
0.09
5 year
17.32
4.37
0.20
0.90
0.91
0.92
RMSE (104 )
4.0422
4.0410
4.0424
0.93
0.94
4.0472 4.0566
3. Figure 2 plots the unpredictable component of volatility. From the plot we see that
positive surprises, although less frequent, are larger in magnitude.
4. The slope coefficient B is very significant (the t-stat is 173.4). B is positive which is
what I expect a higher VIX predicts a higher EWMA volatility. The R2 is also high
at 0.85.
5. The table shows the RMSE for four values of . From the table, the optimal value
of is expected to be between 0.90 and 0.92. Using the optimizer, I get a value of
? = 0.910.
6. The optimal value of MLE = 0.947.
Q3: EWMA on Shanghai Stock Exchange A and B Shares
1. Figure 3 shows the exchange rate. No, it is not volatile at all.
2. (a) The sample mean daily return of A shares is 0.04% with a standard deviation of
1.94%. For the B shares, the mean is 0.04% and the standard deviation is 2.18%.
(b) 2 /2 for the A shares is about 2000, while for the B shares, this ratio is about
2700. The fact that the mean is so much smaller than the variance justifies ignoring
the former.
1
3. Figure 4 plots the daily volatility of the A and B shares. We see that the A shares are
less volatile on average than the B shares. Moreover, from around 2002, the time series
of volatility of both these series co-move more closely. This is probably because from
this time on, both the shares have the same investor base.
4. This correlation plot is shown in Figure 5. From the plot, we see clearly that from
around 2002, the returns of these shares have a very high correlation for the reason
mentioned above.
102
4
3
2
1
0
90
92
94
96
98
00
02
Year
04
06
08
10
12
105
08
10
12
105
102
0.8
0.6
0.4
0.2
0
0.2
90
92
94
96
98
00
02
Year
04
06
Exchange rate
8.5
8
7.5
7
6.5
6
94
96
98
00
02
04
06
Year
Figure 3: RMB/USD exchange rate.
08
10
12
105
0.08
0.07
0.06
0.05
0.04
0.03
0.02
0.01
0
94
96
98
00
02
04
06
08
10
12
Year
Figure 4: EWMA daily volatility of A and B shares. The blue curve is the volatility of the A shares and the
red curve that of B shares.
1
0.8
(rA , rB )
0.6
0.4
0.2
0
0.2
0.4
94
96
98
00
02
04
06
08
Year
Figure 5: EWMA daily correlation of A and B share returns.
10
12
105