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WQU MSFE 610 - C20-S4 M4 CRT

19/01/2020
COLLABORATIVE REVIEW TASK

1) Discuss what can be deduced from the time series properties (persistence and

volatility) of the series from the time series plot

From the plot above it can be deduced that the time series above is mean reverting as it seems
to revert back to a mean of around 0. There is no seasonality and no cyclical hence it looks to
be stationary.
In terms of persistence and volatility, the series exhibits volatility clustering (persistence in
volatility). This is demonstrated by periods of high volatility are followed by high volatility
and periods of low volatility are followed by low volatility.
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1) Discuss what can be deduced from the time series properties of the series from these

ACF and PACF functions and discuss what this means for the appropriate model

approach.

The ACF (auto correlation function) is a measure of the correlation of a time series at time t
with respect to itself at a previous time. This is used to determine the number of lags for the
‘MA’ model (or ‘p’ in the ARMA models).
The PACF (partial auto correlation function) is a measure of the direct impact of a lag at a
specific period in time, controlling for all time periods. This is used to determine the number
of lags for ‘AR’ model (or ‘q’ in the ARMA models).
Analysing the ACF and PACF of the level of the process, the ACF tails off quickly with
significant lags for 1,2,3 and 4. The PACF the significant lags are 1, 2 and 3 where they are
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oscillating/tail off from lag 2 onwards. These visual would suggest that the given time series
demonstrates a ARMA(3,4) model.
Analysing the ACF and PACF of the square of the process, the charts are emphasised with both
the ACF and PACF demonstrating ‘tailing off’ significant lags, with ACF now having
significant lags from 1 -8 and PACF having significant lags 1,2,3,5,6,7,9.

2) Identify the ARMA-GARCH structure of each of the models.

The structure of ARMA models are based on the formula;

The structure of GARCH models are based on the formula:

Model 1 2 3 4 5 6
ARMA(3,0) ARMA(3,0) ARMA(2,0)
ARMA ARMA(1,1) ARMA(0,0) ARMA(0,0)
= AR(3) = AR(3) = AR(2)
GARCH GARCH(1,1) GARCH(2,1) GARCH(2,2) GARCH(2,2) GARCH(2,0) GARCH(2,2)
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3) Analyze each of the six models and select the best one. Your analysis should touch on

the values and statistical significance of coefficients and tests and come to a

conclusion on whether the models are encompassing and/or parsimonious. All

coefficients need not be discussed individually, only to the extent necessary for giving

a complete answer.

The detailed analysis on the models is:

Model 1 Model 2 Model 3 Model 4 Model 5 Model 6

ARMA Except for mu, all coefficients are statistically significant with p < 0.05
coefficients
GARCH All Except for Omega, Only alpha 1 All Only alpha 1
coefficients coefficients alpha 2, all Alpha 1 statistically coefficients statistically
statistically others statistically significant statistically significant
significant statistically significant significant
significant
0<a<0 All of the models meet the condition that any alpha needs to be between 0 and 1
0<b<0 Condition Condition Beta 1 = 0 Beta 1 = 0 Condition Beta 1 = 0
met met met
a+b<1 All of the models meet the condition that alphas + betas < 1
Jarque - All models have p > 0.05 therefore we accept the null hypothesis that the skweness and excess
Bera kurtosis are zero.
Shapiro All models have p > 0.05 therefore we accept the null hypothesis that data came from a normally
Wilk distributed population
Ljung-Box P > 0.05 so P > 0.05 so P > 0.05 so P > 0.05 so P < 0.05 for P < 0.05 for
we accept null we accept null we accept null we accept null residuals and residuals so
hypothesis hypothesis hypothesis hypothesis residuals^2 so we reject the
that residuals that residuals that residuals that residuals we reject the hypothesis
are are are are hypothesis that residuals
independently independently independently independently that residuals are
distributed distributed distributed distributed are independently
independently distributed
distributed
Parsimony 7 coefficients 8 coefficients 8 coefficients 8 coefficients 4 coefficients 6 coefficients
and/or
ecompassing
Ranking 1 2 4 5 3 5
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Jaruqe-Bera test on residuals: a goodness-of-fit test of whether sample data have the skewness and kurtosis
matching a normal distribution. H0: Joint hypothesis of the skewness being zero and the excess kurtosis being
zero.
Shapiro-Wilk test on residuals: tests that data came from a normally distributed population. H0: data is normally
distributed
Ljung-Box test on residuals: tests for serial correlation. H0: Residuals are independently distributed.
Parsimonious in econometrics is the principle that a model as simple should be kept as minimalistic as possible.
Encompassing and / or parsimonious

Conclusion
Based on the analysis above, out of the 6 models, model 1 is the best model for this time series.