Chaos, Solitons & Fractals 66 (2014) 41–50

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Chaos, Solitons & Fractals

Nonlinear Science, and Nonequilibrium and Complex Phenomena

journal homepage: www.elsevier.com/locate/chaos

Review

Goodness of fit assessment for a fractal model of stock markets

Massimiliano Frezza ⇑
University of Cassino and Southern Lazio, Department of Economics and L.I.S.A., Campus Folcara, Via S. Angelo-03043, Cassino, Italy

a r t i c l e i n f o a b s t r a c t

Article history: An assessment of the goodness of fit of a new stochastic model of stock dynamics is
Received 7 May 2013 investigated. The model is the multifractional Brownian motion (mBm), introduced
Accepted 13 May 2014 independently by Péltier and Lévy Véhel (1995) [2] and Benassi (1997) [3]. The analysis
concerns the (un)conditional distributions of log-variations of the Dow Jones Industrial
Average (DJIA). By comparing the performance of mBm with respect to a Garch (1,1), we
argue that the former captures the distributional features as well as the pathwise empirical
ones displayed by the U.S. Dow Jones index, while the Garch (1,1) works better in global
terms.
Ó 2014 Elsevier Ltd. All rights reserved.

1. Introduction
Reams and reams have been written about the incapa-
bility of the traditional Gaussian tools to capture the
well-known stylized facts displayed by financial time ser-
ies and covered in a celebrated work by Cont [1]. In details,
these anomalies are: (1) Absence of (linear) autocorrela-
tion, (2) Heavy tails, (3) Gain/loss of asymmetry, (4) Aggre-
gational Gaussianity, (5) Intermittency, (6) Volatility
clustering, (7) Conditional heavy tails, (8) Slow decay of
autocorrelation in absolute (squared) returns, (9) Leverage
effect, (10) Volume/volatility correlation, (11) Asymmetry
in time scales.
In this work, we will assume that the stock indexes
follow multifractional Brownian motions, a family of non-
linear stochastic processes introduced independently by
[2] and [3] as an extension of the well-known fractional
Brownian motion (fBm). Indeed, although many attempts
were carried out to match theory and practice in finance,
the traditional Gaussian modeling does not give satisfac-
tory answers. Starting with these considerations, by relax-
ing the assumption of independence and/or identical
distribution of the price variations, a growing number of
⇑ Tel.: +39 7762994845.
E-mail address: m.frezza@unicas.it
works were developed during the past years in the field
of non linear continuous time processes as (multi)frac-
tional models or in econometry as ARCH-based family in
discrete time, each of them built to somehow seize the
stylized facts. The (multi)fractional approaches gained
popularity basically in geophysics, in the field of signal
and imaging processing and recently also in finance
([4,5]), but the employment of this new model is still
limited in this context, owing to the unsolved questions
it raises about the exclusion of arbitrage. Briefly, the fBm
satisfies ‘‘nice’’ statistical properties but reveals itself
unable to model phenomena (such as the price variations)
whose regularity changes through time, sometimes
abruptly. This limit, which is overcome by mBm, is
due to the constancy of the parameter H 2 ð0; 1 which
prescribes the time independent regularity of the fBm.
Briefly, the mBm replaces the constant parameter H by a
deterministic function of time HðtÞ which allows us to
control the pointwise regularity, and therefore to account
for the bursts of variance. In this regard, it is well-known
that different market conditions originate an uneven
impact on the financial dynamics; when uncertainty
predominates, the consequent quick buy-and-sell activity
tends to generate mean-reversion and high volatility in
prices. Contrarily, when information is perceived by
investors as confirmative of their past open positions,

http://dx.doi.org/10.1016/j.chaos.2014.05.005
0960-0779/Ó 2014 Elsevier Ltd. All rights reserved.
42 M. Frezza / Chaos, Solitons & Fractals 66 (2014) 41–50
prices tend to follow trends which reflect themselves in
price low volatility. This mechanism implies the so called
volatility clustering effect, which in its turn causes high
peaks and fat tails in the unconditional distributions of
returns. Thus, while the fBm seems to be inappropriate in
seizing this effect, the mBm succeeds in matching this styl-
ized fact right because of its time-varying functional
parameter.
In this concern, very interesting results about the capa-
bility of mBm in describing the time-varying volatility
come from the recent work by Corlay et al. [6] that, in their
turn, extend the model studied in Comte and Renault [7].
The latter describe the dynamics of the price of a risky
asset by using a fBm as driving noise of (log) volatility.
Despite their model accounts for relevant concepts in price
modeling such as long-range correlations in volatility, the
semimartingale property of prices and the capability to
capture lower (higher) persistence in volatility process in
the short (long) term (Comte et al. [8]), the approach pro-
posed by Comte and Renault arises also some problems
such as a rigidity in fitting the volatility surface due to
the constancy of H of fBm which implies also a constant
regularity (contrarily to actual data). In order to overcome
these difficulties, Corlay et al. re-proposed the model of
Comte and Renault by replacing the fBm by an mBm, i.e.
by replacing the parameter H of fBm by a smooth function
h in (0, 1). This allows them both to fit the nonstationarity
local regularity of volatility as measured on data and main-
taining long range dependence properties. In particular, by
adequately choosing the smooth function h, authors show
that it is possible to mimic a given implied surface better
than Hull & White model driven by an fBm (as in the case
of Comte and Renault). While Corlay et al. obtain these
promising results in terms of volatility, in this work we
focus on the capability of mBm in reproducing the mar-
ginal distributions of log-variations for the U.S. Dow Jones
index by assuming an mBm as driving process. To do this,
we compare how mBm performs with respect to the well-
known Garch (1,1) model [9] (symmetric or vanilla Garch),
whose fat tailed appearance is linked to the above recall
intermittence (or volatility clustering). In fact, relaxing
the hypothesis of identical distribution, the main recog-
nized property of the family of Arch-based models is their
capacity to account for the conditional heteroscedasticity,
by assuming the today’s conditional variance is a weighted
average of past squared unexpected returns (see Section 2
for details). Despite the large number of variants proposed
in literature to improve the model’s goodness of fit (see,
e.g., [10–15]), the GARCH (p,q) remains the very bench-
mark and for this reason we choose it as term of compari-
son in evaluating the goodness of fit of a discretized
version of mBm. Another effect concerning the volatility
clustering is represented by the significant positive auto-
correlation in the squared or absolute returns, contrarily
to linear returns that do not exhibit significant autocorre-
lation: the larger the price variations, the larger the follow-
ing. In this direction, empirical works on indexes or stocks
(see, e.g., [16]) indicate that the autocorrelation of squared
or absolute returns is positive and decays slowly, remain-
ing significantly positive over several days or sometimes
weeks (the so-called ARCH effect); this is incompatible
with the random walk hypothesis as suggested by [17]
(among others). Consequently, we compare the mBm with
Garch (1,1) also in terms of autocorrelations. The paper is
organized as follows: Section 2 provides a review of litera-
ture, while the sliding window estimator is proposed in
Section 3. Section 4 shows the empirical applications.
Actual data is described in Sub-Section 4.1, while the fit-
ting analysis is developed in Sub-Section 4.2. In conclusion,
Sections 5 and 6 regard discussion and conclusions.
2. An overview of literature
The pioneering1 work which introduced the fBm as a mov-
ing average of the Brownian motion was due to Mandelbrot
and Van Ness [19]. This process is characterized by a slowly
decaying autocorrelation function which depends on the
parameter H (named Hurst or Hölder parameter) belonging
to the interval (0, 1]. It can be shown (see [20] for a survey bib-
liography) that fBm’s increments are the only zero-mean
Gaussian, stationary, self-similar2 sequence with autocovari-
n o
2
ance function .ðaÞ ¼ K2 ða þ 1Þ2H  2a2H þ ja  1j2H , where
a > 0 is the lag and K is a scale factor (if K ¼ 1 the motion is
called reduced). One of the most remarkable property of the
fBm concerns its capability to capture the long-range depen-
 
dence3 in a time series; in fact when H 2 0; 12 the motion dis-
plays antipersistence (the more evident it is the more H
 
decreases to 0), when H 2 12 ; 1 the fBm shows persistence
(the stronger it is the more H tends to 1) while when H ¼ 12
it reduces to the ordinary Brownian motion. In 1995 Péltier
and Lévy Véhel [2] generalized the fBm, by allowing to the
Hurst parameter to change over time, becoming in this way
a function H : ð0; 1Þ ! ð0; 1 (Hölderian function4). In fact,
once the lag is fixed, the autocovariance function of a fBm
depends only on H; from a financial viewpoint this means that
the intensity of dependence between observed prices changes
along the path according to a change of H.
This extension, referred to as multifractional Brownian
motion (mBm), has the following stochastic representation:
Z
1
BHðtÞ;KðtÞ ðtÞ ¼ KðtÞV 2HðtÞ ft ðsÞdBðsÞ ð1Þ
R
where
n
1 1 1
ft ðsÞ ¼  1
 jt  sjHðtÞ2  I  1; t½ðsÞ  jsjHðtÞ2  I
C HðtÞ þ 2
o
 1; 0½ðsÞ
1
Actually, the former traces of the fBm can be tracked back to the
seminal works by Kolmogorov [18].
2
The stochastic process fXðtÞ; t 2 TÞg is called self-similar with parameter
n o
d
H if for any a > 0; XðatÞ ¼ aH XðtÞ , where the equality holds for the finite-
dimensional distributions of the process (see, e.g., [21]).
3
Let fXðtÞ; t 2 TÞg be a stationary process. If there exist a real number
a 2 ð0; 1Þ and a constant cq > 0 such that limk!1 cqq ðkÞ k
a ¼ 1 or alternatively
qðkÞ  cq ka as k ! 1, then X t is called a stationary process with long
memory or long range dependence or strong dependence.
4
The Hölder exponent measures the degree of irregularity of the graph
of a function. Formally, the function h : R ! R is called a ðb; cÞ-Hölder
function, with b > 0 and c > 0, if and only if for all t1 ; t 2 such that
jt 1  t2 j < 1 it holds jhðt1 Þ  hðt 2 Þj6cjt1  t 2 jb .
 M. Frezza / Chaos, Solitons & Fractals 66 (2014) 41–50
and H : ½0; 1½!0; 1 is a Hölderian function (which ensures
the continuity of the motion), I is the indicator function
and V HðtÞ ¼ Cð2HðtÞ þ 1Þ sinðpHðtÞÞ. From (1) it is easy to
note that the mBm is Gaussian with 0 mean and variance
h i
E ðBHðtÞ;KðtÞ Þ2 ¼ KðtÞjtj2HðtÞ . It is worthwhile to underline
that the mBm differs from the well-known Multifractal
Model (Mandelbrot et al. [22]). In fact, the former controls
the local regularity of a time series by changes to the point-
wise Hölder exponent, whereas the latter obtains similar
results by properly deforming the physical time scale (for
a comparative study see, e.g., [23]). One of the most
remarkable properties of mBm regards its local asymptot-
ical self-similarity (see [3]) in the sense that, denoted by
Zðt; auÞ ¼ BHðtþauÞ ðt þ auÞ  BHðtÞ ðtÞ the increment process
of the mBm at time t, and lag au, and by X HðtÞ a fBm with
d
parameter HðtÞ, then lima!0þ aHðtÞ Zðt; auÞ ¼ X HðtÞ ðuÞ; u 2 R.
The previous distributional equality basically states that
at any point t there exists a fBm with parameter HðtÞ
tangent to the mBm. This implies that, assumed
fBði; nÞ; i ¼ 1; 2; . . . ; ng to be a discretized version of
mBm, the infinitesimal increments of mBm distribute as:
 ity clustering, they were first introduced in [25] by Engle.
 q 2HðiÞ 
Bðj þ q; nÞ  Bðj; nÞ  N 0; K 2
n1
for j ¼ i  d; . . . ; i  q; i ¼ d þ 1; . . . ; n; q ¼ 1; . . . ; d. Here d
represents the window in which a fBm behaves as a
mBm, K2 Rþ and HðÞ 2 ð0; 1.
In other words, if one assumes fBði; nÞ; i ¼ 1; 2; . . . ; ng
to be a discretized version of mBm then it locally behaves
like a fBm of given Hölder exponent; this is a consequence
of the Hölderianity of HðtÞ combined with the local
asymptotical self-similarity property of mBm. In statistical
terms, the mBm loses the property of stationarity and self-
similarity of increments but it is more flexible with respect
Fig. 1. Panel (a) a trajectory of mBm, panel (b) mBm variations, panel (c) sine functional HðtÞ.
43
to fBm in order to describe those dynamics whose regular-
ity changes over time. For this reason it is not senseless to
assume mBm as a possible model of prices’ movements
that change from periods of high volatility in the price
(antipersistence), marked by a quick buy and sell activity,
to periods of low volatility in which the information is per-
ceived by investors as a confirmation of their past open
positions (persistence). Thus, HðtÞ can be viewed as the
‘‘degree of confidence’’ assigned to the past by agents
who influenced the price of the asset itself. This interpreta-
tion is natural and intuitive if one looks at HðtÞ in dynam-
ical terms with respect to the meaning of the Hurst
parameter of fBm. Fig. 1 provides an example of how
mBm works; it displays a sample path (panel a) generated
by a sine function HðtÞ ¼ 0:5 þ 0:3ðsinð4ptÞÞ (panel c) via
the Wood and Chan algorithm (see [24]); panel (b) shows
the first differences. If on one hand, the relaxation of the
assumption of independence leads to the definition of
fBm (and hence, more recently, of mBm) since 1982 the
relaxation of the assumption of identical distribution lead
to other very well-known econometric models such as
the Arch-based models. Principally focused on the volatil-
Following his approach, the ARCH (p) captures the condi-
ð2Þ
tional heteroscedasticity of financial returns by assuming
that today’s conditional variance is a weighted average of
past squared unexpected returns, namely
r2t ¼ a0 þ a1 e2t1 þ a2 e2t2 þ a3 e2t3 þ . . . þ ap e2tp ð3Þ
 
a0 > 0; a1 ; a2 ; a3 ; . . . ; ap P 0; et jIt  N 0; r2t
where It is the available set of information. If a major
market movement occurred yesterday, the day before or
up to p days ago, the effect is to increase today’s condi-
tional variance because all parameters are constrained to
44 M. Frezza / Chaos, Solitons & Fractals 66 (2014) 41–50

be non-negative (and a0 large is constrained to be strictly through time. Estimators proposed for the functional
positive). There is no difference whether the market move- parameter of mBm are mainly based on two approaches:
ment is positive or negative, since all unexpected returns (1) generalized quadratic variations (see, among others,
are squared on the right-hand side of (3). It is a common [28–31]) and (2) average variations of a Gaussian random
ascertainment that for financial data it is more appropriate variable. As for the latter group, the first work is due to Pél-
to use a generalization of this model, the symmetric tier and Lévy Véhel [32] who defined a class of estimator
GARCH introduced in [9] (see also [26] for a complete based on the absolute moment of a normal random vari-
review). The fundamental idea in GARCH is to add a second able in order to evaluate the parameter H of a fBm. Follow-
equation to the standard regression model providing the ing this direction, Bianchi [4] defined the ‘‘sliding window’’
conditional mean equation. In practice, many of the GARCH estimator (also called ‘‘Moving Window Absolute Moment-
models, take the simplest possible conditional mean equa- Based Estimators’’), by extending the work of Péltier and
tion, for example Lévy Véhel to cover the case of the functional parameter
of an mBm. By exploiting the Gaussianity of mBm, the fol-
r t ¼ c þ et ð4Þ
lowing pointwise Hölder exponent, that will be used in the
in which the return rt is the sum of a constant and an application of this work, was developed:
uncorrelated white noise. The second equation rules the    k02 
conditional variance. A full Garch ðp; qÞ model adds q auto- log 2k02 C kþ1
2
VH
regressive terms to the ARCH (p) specification (from here Hkd;N ðtÞ ¼
k logðN  1Þ
the generalization), and the conditional variance equation pffiffiffi P 
t1 k
takes the following form: log dp j¼td X jþ1;N  X j;N
 ð7Þ
k logðN  1Þ
r2t ¼ a0 þ a1 e2t1 þ a2 e2t2 þ a3 e2t3 þ . . . þ ap e2tp þ b1 r2t1
þ b2 r2t2 þ b3 r2t3 þ . . . þ bq r2tq ; for j ¼ t  d; . . . ; t  1; t ¼ d þ 1; . . . ; N; k P 1. It can be
 
shown that, when H 2 0; 34 (case of financial interest), 
1 1
the estimators’ rate of convergence is O d2 ðlog N Þ , that
a0 > 0; a1 ; a2 ; a3 ; . . . ; ap ; b1 ; b2 ; b3 ; . . . ; bq P 0 allows to get reliable estimates even for very short d0 s. Esti-
Here mator (7) was proved to be correct and normally distrib-
uted as follows
et ¼ zt rt ð5Þ !
p
where zt is an independent, identically distributed Hkd;N ðtÞ  N HðtÞ; 2 2   2 r
2

sequence of random variables that distribute as N ð0; 1Þ. dk ln ðN  1Þ2k C kþ1

It is remarkable that, since innovations et are serially
uncorrelated, GARCH modeling does not violate the effi-
cient market theory. However, in applications it is rarely
necessary to use more than a Garch (1,1) model, which
has just one lagged error square and one autoregressive
term. Using the standard notation the symmetric (generic
or vanilla) GARCH (1,1) model is:
r2t ¼ x þ ae2t1 þ br2t1
x > 0, and a; b P 0. The parameters a and b assume a
well-defined meaning in this contest; in fact their size
determines the short-run dynamics of the resulting volatil-
ity series. When b is large, shocks to conditional variance
take a long time to die out; so volatility is persistent. Large
a’s mean that volatility reacts quite intensely to market
movements; thus if a is relatively high and b is relatively
low then volatility tends to be more ‘spiky’. In financial
applications, common values for a and b are found to be
approximately equal to 0.2 and 0.8, respectively. Both the
parsimony in estimating only four parameters and the
capability in capturing most of the variability in many
return series represent points of strength of Garch model-
ing as pointed up by [27].
3. The ‘‘sliding window’’ estimator
The attempt to revise the asymptotical estimators in
order to increase their rate of convergence constitutes a
classical problem when one assumes that H changes
2
When H ¼ 12 the variance of estimator can be written as:
  pffiffiffiffi
p
Var Hkd;N ðtÞ ¼ 2 2  2
dk ln ðN  1Þ C kþ1
2
    2!
2k þ 1 1 kþ1
 C  pffiffiffiffi C
2 p 2
ð6Þ In the next section, devoted to application, the follow-
ing parameters5 will be set: q ¼ 1; k ¼ 2; d ¼ 30; K ¼ 1.
Indeed, it was shown in [4] that the variance of the estima-
tor (7) is increasing with q, so the natural choice is to set
q ¼ 1 (a financial day). Moreover, it can be seen that k ¼ 2
is the value which minimizes the variance with respect to
the central value H ¼ 12. The length of the ‘‘window’’ d ¼ 30
poses a trade-off problem. On one side, since the estimator
variance is decreasing with d, the higher delta the smoother
the estimates; on the other side it describes the pointwise
financial information and therefore the larger it is the
greater the pointwise information lost is. Since the modeling
process of the stock index is a reduced mBM we set K ¼ 1
(this problem was deeply studied by Coeurjolly in [33] and
recently in [34]). Just to give an example in support of our
choice, recently Gaci and Zaourar [35] used the estimator
of Bianchi to study the discontinuities lithology. They
5
The analysis we perform in this paper has been carried out through a
dedicated software described in [23]. This software was implemented in
the Computer-Lab L.I.S.A. (Laboratorio Informatico per le applicazioni
Scientifiche Avanzate) of the University of Cassino and Southern Lazio, Italy.
 M. Frezza / Chaos, Solitons & Fractals 66 (2014) 41–50 45

Table 1
Main descriptive statistics.

S S1 S2 S3 S4 S5

Mean ð10 4
Þ 3.7458 5.6779 5.2156 5.2090 5.2446 1.8137
Std 0.0102 0.0077 0.0096 0.0103 0.0102 0.0121
Max 0.0615 0.0447 0.0486 0.0486 0.0447 0.0615
Min 0.0745 0.0401 0.0745 0.0745 0.0401 0.0745
Skewness 0.2249 0.1878 0.4453 0.4295 0.1878 0.1881
Kurtosis 7.5079 5.4696 8.0804 7.3285 5.4696 6.5071

Fig. 2. Analysis of DJIA.

Table 2 1990 to February 16, 2005 (3775 obs.). Table 1 shows the
Fitting: K–S results. A first approach. main descriptive statistics of log-variations obtained on
both the whole time series indicated by S ¼ ½1:3774
S S1 S2 S3 S4 S5
and subsamples S 1 ¼ ½1:1887; S 2 ¼ ½500:2837; S 3 ¼
mBm
½1000:2887; S 4 ¼ ½1200:3087 and S 5 ¼ ½1888:3774. The
ða ¼ 0; 05Þ 95.39 92.10 99.50 100.00 100.00 100.00
ða ¼ 0; 01Þ 99.82 99.80 99.90 100.00 100.00 100.00 reason of this partitioning will be explained in detail in
the next section. Fig. 2 displays the log-variations (panel
GARCH (1,1)
ða ¼ 0; 05Þ 20.23 23.70 19.60 32.30 23.60 59.33 a), the sample autocorrelation function6 computed on the
ða ¼ 0; 01Þ 36.50 43.90 33.00 45.20 35.70 73.11 simple log-variations (panel b), the estimated pointwise
Hölder exponent (panel c) and the sample autocorrelation
function of squared log-variations (panel d).
defined the algorithm ‘‘for its simplicity and accuracy’’ an As expected from the stylized facts, the values of
appropriate tool for estimating the local time-varying Hurst kurtosis and skewness are far from those prescribed by
exponent. the Gaussian law. Again, according to what heuristics
state, the log-variations do not exhibit significant (linear)
autocorrelation whereas squared variations do (Fig. 2,
4. Empirical analysis
panels (b)–(d)). Furthermore, looking at panel (a) another
4.1. Actual data and estimations
6
We adopt the standard procedure of Box et al. [27]. They compute the
The analysis concerns the daily closing price of the ACF by removing the sample mean of the input series and then normalizing
U.S. Dow Jones Industrial Average (DJIA) from March 01, the sequence in such a way that the ACF at lag zero is unity, see [27].
46 M. Frezza / Chaos, Solitons & Fractals 66 (2014) 41–50
Fig. 3. Actual vs simulation.
well-known market anomaly is evident: the volatility clus-
tering. This effect is stressed if one splits the series in two
parts; the first one (left), dominated by lower daily volatil-
ity, and the second one (right) by higher daily volatility.
This graphical intuition is sized by the estimated functional
parameter HðtÞ (Fig. 2, panel (c)) whose paths alternate
values lower than 0.5 (antipersistence/high volatility) and
values larger than 0.5 (persistence/low volatility).
4.2. Fitting
In order to compare the fitting capabilities of the mBm
with respect to the Garch (1,1) model, the analysis was
performed as follows: (i) Generation of three thousand
sample paths of each model using specific toolboxes in
matlab 7.12.0 (R2011a)7. In this concern, while nothing
can be added to well-known Garch model, the basic assump-
tion for the generation of mBm surrogates is that log-
variations follow an mBm and for this reason they distribute
as (2), i.e. as a Normal with zero mean and variance equals
 q 2HðiÞ
to K 2 n1 , where HðtÞ was estimated according to the
procedure recalled in the previous section. The resulting
parameters were used as input signal to generate discretized
surrogates of mBm by exploiting relation (2)8. (ii) The fitting
7
To be more specific, the Econometric toolbox was used to generate
Garch (1,1) trajectories by the functions: Garchset (Set ARMAX/GARCH
model specification parameters) with command spec = garchset (‘P’,1,‘Q’,1),
Garchfit (Estimate ARMAX/GARCH model parameters) with command
[Coeff, Errors, LLF, Innovations, Sigmas, Summary] = garchfit (spec) whose
results are shown in Table 3 and Garchsim (Simulate ARMAX/GARCH model
responses) with command [Innovations, Sigmas, Series] = garchsim (Spec,
NumSamples, NumPaths).
8 9
The software Fraclab (available at: <fraclab.saclay.inria.fr>), which is a
general purpose signal and image processing toolbox based on fractal and
multifractal methods, uses the Wood and Chan circulant matrix method to
surrogate mBm. This procedure makes use of the inbuilt function
kdkmbmqk0 =mBmQuantifKrigeage (n,H (t),..).
analysis was performed on both the whole time series
indicated by S ¼ ½1:3774 and on the subsamples S 1 ¼
½1:1887; S 2 ¼ ½500:2837; S 3 ¼ ½1000:2887; S 4 ¼ ½1200:3087
and S 5 ¼ ½1888:3774. Note that S 1 and S 5 split the whole
sequence into equal intervals, while the other windows are
obtained by sequentially shifting the previous window of
five hundred observations (except for S 4 obtained by shift-
ing S 3 just by two hundred observations in order to not
excessively overlap S 5 as will be clarified in the following).
The justification of this choice is twofold: (1) on one side,
the behavior of the time series changes with the subsamples,
a.s. observations in left are smoother (less volatile) than
those on the right. In this concern the partitioning can help
in addressing the question of whether the fitting perfor-
mance of the two models changes depending on the subs-
amples; (2) on the other side, as will be clear in the
following, the partitioning serves to test the global fitting
capabilities of the two models, roughly speaking we will
use the samples in S 1 ; S 2 ; S 3 and S 4 as training and the
sample in S 5 as forecasting. (iii) Application of the two-
sample Kolmogorov–Smirnov (K–S)9, a distributional free
test which compare the whole empirical distribution of
log-variations with those simulated by the two models at
5% and 1% significance levels. (iv) The percentage of
‘‘successes’’ of the K–S, i.e. the percentage of simulations that
do not reject the null hypothesis (H0 : the distributions are
the same) when compared to the actual one, were com-
puted. Table 2 and Fig. 3 show the results: the left hand side
displays the actual log-variations (solid-blue line) against
surrogates of mBm (solid-red line) and Garch (1,1) (solid-
black line) while the right hand side shows probability plot
This test has two main statistical advantages in this context: (a) it does
not need any assumptions about the distribution of data (i.e. it is non-
parametric and distribution free) and (b) it compares the whole distribu-
tion and not just some moments such as mean or variance (this represented
a limitation in classical approaches).
 M. Frezza / Chaos, Solitons & Fractals 66 (2014) 41–50 47

Table 3
Garch outputs.

c x a b Log-Lik.
(s.e.) (s.e.) (s.e.) (s.e.)
(T Stat.) (T Stat.) (T Stat.) (T Stat.)
S 1:915  104 9:1383  107 0.0659 0.9263 12293.1
(1:3473  104 ) (1:7568  107 ) (0.0044268) (0.0055834)
(1.4213) (5.2016) (14.8915) (165.9034)
S1 1:6448  105 3:3019  107 0.027381 0.96761 6481.2
(1:6557  104 ) (9:847  108 ) (0.0039169) (0.0036481)
(0.0993) (3.3531) (7.5056) (247.0377)
S2 9:8454  105 8:9995  107 0.077068 0.91589 7821.11
(1:5899  104 ) (2:0103  107 Þ (0.0065212) (0.0075987)
(0.6192) (4.4767) (11.8180) (120.5323)
S3 2:4015  104 1:2757  106 0.088062 0.9041 6132.32
(1:9914  104 ) (3:3309  107 ) (0.0076882) (0.0085459)
(1.2060) (3.8299) (11.4542) (102.1928)
S4 3:3974  104 1:4313  106 0.096459 0.8978 6013.37
(2:1426  104 ) (3:9307  107 ) (0.0078145) (0.0090076)
(1.5857) (3.6413) (12.3436) (99.6706)
S5 1:4987  104 1:9026  106 0.087244 0.88349 13074.5
(1:1856  104 ) (3:4372  107 ) (0.0064446) (0.010871)
(1.2640) (5.5354) (13.5376) (81.2670)

for normal distribution. (v) Estimation of the sample auto-
correlation functions. It was computed, via the Montecarlo
method, at lags 1–50, with step D ¼ 5. Fig. 4 shows in the left
hand side the ACF computed on the actual log-variations
(solid-blue line) against the ACF calculated on surrogates
of mBm (dash-red line) and Garch (1,1) (dot-black line). In
the right hand side, the corresponding ACF is computed on
the squared variations10.
Since we are comparing a global (Garch (1,1)) model
with a local (mBm) model, we expect that the former will
perform better than the later as the estimation window
slides far away from the estimation point and, contrarily,
we expect to observe the opposite in the reverse case. In
order to test this issue, we built the following ‘‘naive’’11
procedure. The basic idea is to generate surrogates of mBm
and Garch (1,1) able to fit the unconditional distribution of
the actual log-variations belonging to the interval (S 5 ). The
steps followed are the same of the previous section with a
basic difference: in order to generate the simulations, the
running values adopted for each model (the pointwise
Hölder exponent for mBm and the Arch–Garch coefficients
for Garch (1,1)) are those estimated on the following
sliding intervals: S 1 ¼ ½1:1887; S 2 ¼ ½500:2387; S 3 ¼
½1000:2887; S 4 ¼ ½1200:3087, i.e. we tried to fit the actual
log-variations in right interval S 5 ¼ ½1888:3774 by exploit-
ing the left (sliding) estimations. The main reason is the
following: if the log-variations distribution did not signifi-
cantly change over time, we would expect the Garch (1,1)
to behave better than mBm when the left windows
10
In order to not overload the work by more graphs, the ACF results
obtained on the subsequences have been omitted because they reflect the
goodness of fit of the corresponding simulations. All results are available.
11
This naive procedure is the best one can do absent in literature an
explicit functional modeling the dynamics of HðtÞ.
S 1 ; S 2 ; S 3 ; S 4 are used as training. In terms of HðtÞ this
would not imply some form of stationarity; in terms of
Garch (1,1) this would mean stability of its coefficients. On
the contrary, if the distribution does change, we will expect
the goodness of fit to deteriorate when the distance of the
left subsample increases. From a financial point of view this
would confirm the global goodness of fit of Garch (1,1), i.e.
its trajectories could reflect (on average) the time series
behavior. In order to check for the effects above described:
1. We first estimate from the left windows the pointwise
Hölder exponent for mBm and the Garch (1,1)
coefficients.
2. Generate the surrogates of each models.
The results are displayed in Table 4. For example, the
value 68.40 means that the null hypothesis is not rejected
68.40 % at a ¼ 5%, once HðtÞ was estimated on S 3 and the
corresponding simulations were simulated and compared
(via the K–S test) with those resulting from FS 5 .
5. Discussion of results
The fitting analysis was performed on the unconditional
distributions of actual log-variations for the Dow Jones
Industrial Average (DJIA). All calculations were developed
using Matlab 7.12.0 (R2011a) which allows a specific
section to both models: Econometric toolbox for Garch
(1,1) and Fraclab toolbox for mBm. Although just heuristi-
cally, Fig. 3 shows clearly that mBm succeeds in capturing
the different market phases. This originates, in its turn,
the alternation of periods of persistence (low volatility)
and antipersistence (high volatility). In graphical terms,
the red line (surrogates of mBm) shadows very well the
48 M. Frezza / Chaos, Solitons & Fractals 66 (2014) 41–50
Table 4
Fitting: K–S results. A second approach.
mBm
S1 S2 S3
DJIA
ða ¼ 0:05Þ 0.00 0.00 68.40
ða ¼ 0:01Þ 0.00 0.00 97.20
Fig. 4. Sample ACF of simple log-variations (left) and squared log-variations (right).
blue line (actual), especially when a shock impacts the
market (this is the case, e.g., of what happens in the right
window). This intuition is confirmed by data in Table 2.
According to the Kolmogorov–Smirnov test, mBm fits
actual data better than Garch (1,1) both on the whole time
series and the subsamples. This would suggests that the
samples chosen do not affect the results. The gap between
the two models is particularly pronounced: this bears out
the peculiar role assumed by the pointwise Hölder expo-
nent, working as a market ‘‘thermometer’’. If the market is
dominated by uncertainty (high volatility) then HðtÞ tends
to lower, the faster the more pronounced is the shock that
be occurs; conversely, if market is not stricken by shocks
(low volatility), HðtÞ increases, the faster the more new
information is felt by investors as confirmative of their
own past open positions. Both these financial situations
translate in distributional terms in the capability of mBm
to tackle the (eventual sudden) larger or smaller variations
of actual data. This agrees also with the results obtained in
terms of sample autocorrelations functions. Indeed, even
though both mBm and Garch (1,1) surrogates do not
exhibit significant correlation in simple log-variations
and significant correlation in squared log-variations (a
confirmation of the very well-known volatility clustering
effect), the mBm shows results closer to the estimated
actual ones (Fig. 4). If on the one hand the pointwise fitting
GARCH (1,1)
S4 S1 S2 S3 S4
99.99 0.08 16.20 59.80 60.60
99.99 3.80 26.60 76.60 75.80
capability of mBm is evident, on the other hand its
forecasting ability remains an open problem. According
to the procedure followed here, when the left sample, used
as training, slides forward, both the mBm and the Garch
surrogates gain in reproducing the actual unconditional
distribution of the right sample but at different extents.
It seems clear that mBm loses the capability to reproduce
the unconditional distribution in S 5 except for the last win-
dow S 4 . This is due to the fact that mBm loses pointwise
information captured by HðtÞ. Conversely, (on average)
Garch (1,1) seems to hold because it accounts for global
dynamics (note how, in Table 3, the coefficients a and b
in S 3 ; S 4 and S 5 are simultaneously closer). This strongly
suggests that an unsolved issue for the mBm to represent
an effective model of stock price resides in a financial
robust modeling of HðtÞ function. A possible answer comes
from the work by Barrière et al. [36] in which a particular
version of mBm called ‘‘self-regulating multifractional
Brownian motion’’ (srmBm) is defined. By moving in both
deterministic and stochastic setting, the authors find a
functional relation among amplitude and local regularity
of ‘‘particular’’ functions built by extending Weierstrass
function (deterministic) and multifractional Brownian
motion or Lèvy construction of Brownian motion (stochas-
tic). In the direction of our work, it is worthwhile to focus
on srmBm. Briefly, the authors define a process Z ¼ ZðgÞ
 M. Frezza / Chaos, Solitons & Fractals 66 (2014) 41–50
such that, at each point, almost surely aZ ðt; xÞ ¼ gðZðt; xÞÞ,
where g is a deterministic K g -Lipschitz function defined on
an interval ½a; b  R and ranging in ½a; b  ð0; 1Þ and
aZ ðt; xÞ is the pointwise Hölder exponent12. This approach
allows us to model empirical phenomena whose regularity
is often related to amplitude, as for example terrain model-
ing [37]. However, one could use this approach to regulate
also the dynamic of (log) price. Roughly speaking, when
prices are high, we expect small variations and, as a conse-
quence, higher pointwise regularity (the information con-
firming past trends is a gradual accumulation process); on
the other side when prices fall, we expect sudden and large
variations that last until the prices return to a level that mar-
ket perceives as ‘‘fair’’ in some sense. This means that when
price increases the path becomes smooth and, vice versa,
when price decreases the path becomes jagged. For this rea-
son, if ZðtÞ ¼ logPt , after an adequate normalization Z  , a pos-
2 [12] Ding Z, Granger CWJ, Engle RFA. Long memory property of stock
sible relation could be the following one: aðtÞ ¼ ½Z  ðtÞ .
Alternatively, one may also use an appropriate parametric
logistic function. These considerations will be the starting
points for future works.
6. Conclusions
The Garch (1,1) was used in the application as a bench-
mark to assess the capability of the mBm to fit actual finan-
cial data. In this view, while nothing new was added to the
Garch (1,1) well-known aptitude to model financial time
series in global terms, the results discussed above strongly
suggest that the mBm would deserve more attention as a
model in finance. Indeed, its very good pointwise fitting
capabilities require an in-depth examination from a theo-
retical viewpoint in order to model the functional HðtÞ, as
discussed in the previous section. Further theoretical
developments, very promising in terms of compatibility
of (multi)fractional processes with respect to no-arbitrage
theory, seem to come from the work by Guasoni et al. [38].
They show the existence of consistent price systems for
fractional Brownian motion by improving, in this way,
the work of Guasoni [39] in which the author proves that
proportional transaction costs of any positive size elimi-
nate arbitrage opportunities from Geometric Fractional
Brownian Motion for H 2 ð0; 1Þ.
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