The Effect of Long Memory in Volatility on Stock Market Fluctuations

Bent Jesper Christensen; Morten Ørregaard Nielsen

doi:10.1162/rest.89.4.684

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The Effect of Long Memory in Volatility on Stock Market Fluctuations

Bent Jesper Christensen¹; Morten Ørregaard Nielsen²

¹ Aarhus University · ² Cornell University

The Review of Economics and Statistics 2007

Recent empirical evidence demonstrates the presence of an important long-memory component in realized asset return volatility. We specify and estimate multivariate models for the joint dynamics of stock returns and volatility that allow for long memory in volatility without imposing this property on returns. Asset pricing theory imposes testable cross-equation restrictions on the system that are not rejected in our preferred specifications, which include a strong financial leverage effect. We show that the impact of volatility shocks on stock prices is small and short lived, in spite of a positive risk-return tradeoff and long memory in volatility.

DOI: 10.1162/rest.89.4.684
Volume: 89 (4)
Pages: 684-700
Language: en
Export: BibTeX
Sources: openalex crossref