Components of Volatility and their

Empirical Measures
DIPANKOR COONDOO
Economic Research Unit, Indian
Statistical Institute, Kolkata
PARAMITA MUKHERJEE
Monetary Research Project,
ICRA Limited, Kolkata

Notions of Volatility
Of Financial Analysts: Variability of a financial
variable as measured by
its Std. Dev.
Of Econometricians:

Conditional
Heteroskedasticity

Other Related Issues

Historical Volatility

- Non Parametric Measure

Stochastic Volatility

- GARCH-based Parametric
Analysis

Changing Volatility

- Rolling Sample Measure

Can be examined both in
Historical & Stochastic
Set up

What led to what I talk about here?

1. Non-comparability of volatility of variables
measured in different units
2. Basis for comparison of the Volatilities of FIIN
to India and BSE return, say
3. Are there different aspects of volatility that
need to be compared?

Three Components of Volatility

Strength :
Range of Amplitude of
Fluctuation due to Volatility

Duration :
Portion of Time the Variable is in
Volatile State

Persistence: Inertia of large and small

fluctuations

Strength of Volatility
Green has less strength than Blue

Duration of Volatility
Volatile State

Normal State

Persistence of Volatility
Blue is more persistent than Black

The Decomposition Methodology

Given

Series has trend and volatility

An ARIMA with GARCH error will fit well

Step 1: Fit ARIMA. Get the residuals e(t),

T = 1, T. Standardise these residuals as
w(t) = abs (e(t)/s), t = 1,T, where
s = std. dev(e(t),t = 1,t)

The Decomposition Methodology

Note that w(t) is non-negative, by construction.
Step 2: Estimate the PDF of w(t). We used non-parametric
kernel
method of density estimation of Silverman (1986). For
every observed value of w, the ordinate of the estimated PDF is

1 T

fT ( w)
K [( w wt ) / h]
T .h t 1

K [.] : kernel function, K (u ) du 1

h : bandwidth or smoothing parameter

The Decomposition Methodology

Step 3. Find mode of w. Call it w.
.
Also find mean of w w and call it w
w: average amplitude in nonvolatile state
: average amplitude in volatile state
w
w
Strength : S w
Duration: D 1 F ( w)
where F ( w): a measure of portion of sample
period the variable is in volatile state
Persistence: P a measure of autocorrn of w

Table 1: Summary Descriptive Statistics

BRET

CMR

FIIN

Mean

-0.00004

8.38

34.07

Median

0.00092

8.03

23.10

Max

0.09

22.50

983.20

Min

-0.07

0.50

-509.50

Std. Dev.

0.02

2.10

120.04

Skewness

-0.07

2.58

0.76

Kurtosis

5.33

13.99

9.66

Jarque-Bera

190.15

5160.66

1632.13

Sample Size

840

840

840

Table 2: Results of Unit Root Tests

BRET
CMR
FII
-16.48
-7.73
-9.11
N
ADF-statistic
-3.97
-2.87
5% Critical Value -1.94
Model Selected No trend or Trend and Intercept
intercept intercept
lag order

Table 3: Results of GARCH (1,1) Estimation

item

BRET
Coefficient

CMR
Std. Error

Coefficient

FIIN

Std. Error

Coefficient

Std. Error

0.025773

24.63928

2.921969

mean equation
intercept

0.000723

0.000592

7.990946
variance equation

intercept

4.56E-05

9.87E-06

0.196689

0.012257

274.2189

61.64922

ARCH(1)

0.161038

0.036078

1.08646

0.059423

0.124378

0.013505

GARCH(1)

0.713714

0.052307

0.144736

0.019215

0.863543

0.014828

Adjusted R2

-0.005257

-0.03849

-0.00979

FIIN Density

1.00
0.80
0.60
0.40
0.20
0.00
0.00

1.00

2.00

3.00

4.00

5.00

6.00

7.00

8.00

9.00

10.00

BRET Density

1.00
0.80
0.60
0.40
0.20
0.00
0.00

1.00

2.00

3.00

4.00

5.00

6.00

Table 4. Variable-specific Estimates of Volatility

Components Based on Entire Sample
BRET
Amplitude of Fluctuation

Average Amplitude Normal Phase(

w*

Average Amplitude Volatile Phase (

Strength of Volatility (S)

CMR

0.295

0.133

) 0.987

0.847

FIIN
0.256
0.929

0.692

0.714

0.673

0.773

0.807

0.769

1st Order Autocorrelation of w

0.25

0.51

0.22

2ndOrder Autocorrelation of w

0.18

0.36

0.20

Duration of Volatility
Proportion of Volatile Days (D)

Persistence of Volatility (P)

Table 5: A Summary of Rolling Sample

Estimation Returns
Volatility
WindowComponent width
15-day
S

90-day
Entire
15-day

90-day
Entire
15-day

90-day
Entire

Mean/CV

mean
cv
mean
cv
sample
mean
cv
mean
cv
sample
mean
cv
mean
cv
sample

Variable
BRET
0.66
0.51
0.68
0.22
0.692
0.6
0.23
0.7
0.09
0.773
-0.01
-47.31
0.2
0.67
0.25

CMR
0.67
1.12
0.75
0.54
0.714
0.72
0.12
0.79
0.05
0.807
0.24
0.91
0.45
0.33
0.51

FIIN
0.63
0.51
0.65
0.33
0.673
0.63
0.17
0.71
0.06
0.769
-0.01
-15.78
0.08
1.54
0.22

S Measure for 15-day Window Width

7
6
BRET
CMR
FIIN

5
4
3
2
1

Note: Scales shifted for BRET and CMR

807

776

745

714

683

652

621

590

559

528

497

466

435

404

373

342

311

280

249

218

187

156

125

94

63

32

D Measure for 15-day Window Width

2.25
2.05
1.85
1.65
1.45
1.25
1.05
0.85
0.65
0.45

Note: Scales shifted for BRET and CMR

BRET

CMR

FIIN

801

769

737

705

673

641

609

577

545

513

481

449

417

385

353

321

289

257

225

193

161

129

97

65

33

0.25

P Measure for 15-day Window Width

BRET

CMR

FIIN

2.5
2
1.5
1
0.5
0
-0.5

Dotted lines are shifted scales for respective variables

807

781

755

729

703

677

651

625

599

573

547

521

495

469

443

417

391

365

339

313

287

261

235

209

183

157

131

105

79

53

27

-1

S Measure for 90-day Window Width

2.75
2.5
2.25

BRET

CMR

FIIN

2
1.75
1.5
1.25
1
0.75
0.5
737

705

673

641

609

577

545

513

481

449

417

385

353

321

289

257

225

193

161

129

97

65

33

0.25

D Measure for 90-day Window Width

1.1
1
0.9
0.8
0.7
0.6

BRET

CMR

FIIN

Note: Scale shifted for BRET

737

705

673

641

609

577

545

513

481

449

417

385

353

321

289

257

225

193

161

129

97

65

33

0.5

P Measure for 90-day Window Width

1.2

BRET_90

CMR_90

FIIN 90

1
0.8
0.6
0.4
0.2

Dotted lines are shifted scales for respective variables

729

701

673

645

617

589

561

533

505

477

449

421

393

365

337

309

281

253

225

197

141

113

85

57

29

-0.2

169

Table 6:

Correlation between day to day variations of estima

volatility components for different pairs of variab
Volatility Window-width
component
S
D
P

15-day
90-day
15-day
90-day
15-day
90-day

Correlation for the variable-pair

BRET-CMR BRET-FIIN
-0.02
0.23
0.43
0.51*
-0.34
0.05
-0.38
0.23
-0.12
0.07
-0.23
-0.16

CMR-FIIN
0.06
0.25
0.06
0.19
0.05
0.42

Table 7A:
Component-wise Forecast : Strength
BRET_S15=C(1)+C(2)*BRET_S15LAG1+C(3)*BRET_S15LAG2
+C(4)*BRET_SD15LAG1
Coefficient

Std. Error

t-Statistic

Prob.

C(1)

0.040277

0.011506

3.500639

0.0005

C(2)

0.949454

0.036686

25.8806

C(3)

-0.045665

0.035586

-1.283214

0.1998

C(4)
Adjusted R-squared

0.025349
0.86514

0.020244

1.252201

0.2109

Durbin-Watson stat

1.985785

Table 7B:
Component-wise Forecast :Duration
BRET_D15=C(1)+C(2)*BRET_D15LAG1+C(3)*BRET_D15LAG2
+C(4)*BRET_SD15LAG1
Coefficient

Std. Error

t-Statistic

Prob.

C(1)

0.124057

0.016135

7.688657

C(2)

0.677629

0.034416

19.68965

C(3)

0.133242

0.034411

3.872083

0.0001

C(4)
Adjusted R-squared

-0.010605
0.621627

0.007934

-1.336662

0.1817

Durbin-Watson stat

2.007996

Table 7C:
Component-wise Forecast : Persistence
BRET_P15=C(1)+C(2)*BRET_P15LAG1+C(3)*BRET_P15LAG2
+C(4)*BRET_SD15LAG1
Coefficient

Std. Error

t-Statistic

Prob.

C(1)

-0.017607

0.009949

-1.769719

0.0771

C(2)

1.039735

0.034724

29.94281

C(3)

-0.157909

0.034455

-4.583119

C(4)
Adjusted R-squared

0.018263
0.824973

0.010017

1.823169

0.0686

Durbin-Watson stat

2.005559

Table 8A:
Non-parametric Volatility explained by three components
BRET_SD15 Regressed on
Coefficient
Std. Error
Constant
BRET_S15
BRET_D15
BRET_P15
BRET_SD15Lag1
BRET_SD15Lag2
R-squared
Adjusted R-squared
S.E. of regression
Sum squared resid
Log likelihood
Durbin-Watson stat

t-Statistic

Prob.

0.182372

0.017221

10.58988

0.290415

0.016038

18.10794

-0.252909

0.024861

-10.17302

0.011946

0.011538

1.035377

0.3008

0.812226

0.033928

23.9396

-0.051401

0.029838

-1.722664

0.960513
0.960271
0.074802
4.571429
969.1867
1.548439

Mean dependent var

S.D. dependent var
Akaike info criterion
Schwarz criterion
F-statistic
Prob(F-statistic)

0.0853
0.925065
0.375287
-2.340672
-2.306313
3974.679
0

Forecast Model
2

0.030

1.8

0.028

1.6

0.026
0.024

1.4

0.022

1.2

0.020
1

0.018

0.8

0.016

0.6

0.014

0.4

0.012

0.2

0.010
BRET_SD15

BRET_SD15Forecast

GarchVolBRET_MA15

Forecast Model:
BRET_SD15=C(1)+C(2)*BRET_S15+C(3)*BRET_D15+C(4)*BRET_P15+C(5)*BRET_SD15LAG1+C(6)*BRET_SD15LAG2

Table 8B:
Non-parametric Volatility explained by three components
CMR_SD15 Regressed on
Coefficient
Std. Error t-Statistic
Constant
CMR_S15
CMR_D15
CMR_P15
CMR_SD15Lag1
CMR_SD15Lag2
R-squared
Adjusted R-squared
S.E. of regression
Sum squared resid
Log likelihood
Durbin-Watson stat

0.212444
0.453337
-0.265469
0.001537
0.664036
-0.133352
0.976942
0.976801
0.107611
9.460969
669.8826
1.023739

0.032426
0.014953
0.046262
0.0182
0.030368
0.023436

6.551635
30.31661
-5.738427
0.084428
21.86596
-5.690007

Mean dependent var

S.D. dependent var
Akaike info criterion
Schwarz criterion
F-statistic
Prob(F-statistic)

Prob.
0
0
0
0.9327
0
0
0.68998
0.706518
-1.613324
-1.578964
6923.154
0

Table 8C:
Non-parametric Volatility explained by three
components
FIIN_SD15 Regressed on
Coefficient Std. Error t-Statistic
Constant
FIIN_S15
FIIN_D15
FIIN_P15
FIIN_SD15Lag1
FIIN_SD15Lag2
R-squared
Adjusted R-squared
S.E. of regression
Sum squared resid
Log likelihood
Durbin-Watson stat

0.183537
0.398881
-0.283178
0.003833
0.721912
-0.021108
0.976067
0.975921
0.065868
3.540332
1072.563
1.443571

0.017932
0.020162
0.026796
0.011566
0.032756
0.028928

10.23524
19.78417
-10.56775
0.331404
22.03913
-0.729696

Mean dependent var

S.D. dependent var
Akaike info criterion
Schwarz criterion
F-statistic
Prob(F-statistic)

Prob.
0
0
0
0.7404
0
0.4658
0.85531
0.424477
-2.595044
-2.560652
6655.9
0

Table 9A:
Non-parametric Volatility Forecasting Model
BRET_SD15 Regressed on
Coefficient Std. Error

t-Statistic

Prob.

Constant
BRET_S15 Lag1
BRET_D15 Lag1
BRET_P15 Lag1
BRET_SD15Lag1
BRET_P15 Lag2

0.057006
0.065216
-0.055691
0.06902
0.927875
-0.103754

0.021796
0.021957
0.031278
0.030397
0.018618
0.030054

2.615513
2.970124
-1.780506
2.270634
49.83784
-3.452256

0.0091
0.0031
0.0754
0.0234
0
0.0006

R-squared
Adjusted R-squared
S.E. of regression
Sum squared resid
Log likelihood
Durbin-Watson stat
Residual Series
Jarque-Bera
Probability

0.944372
0.944032
0.088784
6.440066
828.1604
1.793371

Mean dependent var

S.D. dependent var
Akaike info criterion
Schwarz criterion
F-statistic
Prob(F-statistic)

6770.647
0.0000

0.925065
0.375287
-1.99796
-1.9636
2773.982
0

Table 9B:
Non-parametric Volatility Forecasting Model
CMR_SD15 Regressed on
Coefficient

Std. Error

t-Statistic

Prob.

Constant
CMR_S15Lag1
CMR_D15Lag1
CMR_S15Lag2
CMR_D15Lag3

0.539725
0.81667
-0.305795
0.094666
-0.329692

0.077949
0.035396
0.142694
0.035166
0.141923

6.924074
23.07214
-2.143016
2.691998
-2.323039

0
0
0.0324
0.0072
0.0204

R-squared
Adjusted R-squared
S.E. of regression
Sum squared resid
Log likelihood
Durbin-Watson stat
Residual Series
Jarque-Bera
Probability

0.878311
Mean dependent var
0.877716
S.D. dependent var
0.245462
Akaike info criterion
49.2256
Schwarz criterion
-9.268205
F-statistic
0.992321 Prob(F-statistic)
11381
0.0000

0.687053
0.701938
0.034716
0.063376
1474.213
0

Table 9C:
Non-parametric Volatility Forecasting Model
FIIN_SD15 Regressed on
Coefficient Std. Error
Constant
FIIN_S15 Lag3
FIIN_S15 Lag4
FIIN_D15 Lag6
FIIN_SD15 Lag1
R-squared
Adjusted R-squared
S.E. of regression
Sum squared resid
Log likelihood
Durbin-Watson stat
Jarque-Bera
Probability

0.066596
0.080775
-0.103597
-0.072937
0.993259
0.965969
0.965801
0.078577
5.01968
922.5482
1.978857
2653.505
0.0000

0.019491
0.031703
0.0295
0.028755
0.015763

t-Statistic
3.416721
2.547885
-3.511783
-2.536479
63.01025

Mean dependent var

S.D. dependent var
Akaike info criterion
Schwarz criterion
F-statistic
Prob(F-statistic)

Prob.
0.0007
0.011
0.0005
0.0114
0
0.856792
0.4249
-2.243394
-2.214624
5769.176
0

BRET
2.10

2.2

BRET

1.80

1.8
1.6

1.2
0.90

1
0.8

0.60

0.6
0.30

0.4

BRET_SD15Observed

BRET_SD15Forecast

807

776

745

714

683

652

621

590

559

528

497

466

435

404

373

342

311

280

249

218

187

156

125

94

63

0.2
32

0.00

Forecast

1.4

1.20

Observed

1.50

CMR
CMR

3.00
2.50

CMR_SD15Observed

2.00

CMR_SD15Forecast

1.50
1.00
0.50
0.00
1

32 63 94 125 156 187 218 249 280 311 342 373 404 435 466 497 528 559 590 621 652 683 714 745 776 807

811

781

751

721

691

661

631

601

FIIN

FIIN_SD15Forecast

1.15
1

0.65
0.5

0.15
0

Forecast

2.15

571

541

511

481

451

421

391

361

331

301

271

241

211

181

151

121

91

61

31

Observed

FIIN
2.5

FIIN_SD15Observed
2

1.65
1.5