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Quantitative Methods in Finance Msc. in Finance Fall 2020: Instructions

This document provides instructions for a case study assignment on estimating and modeling volatility. Students will: 1) Estimate volatility of the S&P 100 equity index using moving average models with different time lags. 2) Estimate volatility of the EURO STOXX 50 using exponentially weighted moving average models with different parameters. 3) Estimate volatility of the S&P 100 using a GARCH(1,1) model and compare it to other estimates.

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Alvaro Ramos Rios
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54 views2 pages

Quantitative Methods in Finance Msc. in Finance Fall 2020: Instructions

This document provides instructions for a case study assignment on estimating and modeling volatility. Students will: 1) Estimate volatility of the S&P 100 equity index using moving average models with different time lags. 2) Estimate volatility of the EURO STOXX 50 using exponentially weighted moving average models with different parameters. 3) Estimate volatility of the S&P 100 using a GARCH(1,1) model and compare it to other estimates.

Uploaded by

Alvaro Ramos Rios
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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Quantitative Methods in Finance

MSc. in Finance
Fall 2020

Instructor: Romain Deguest

Case Study 2: Estimating and Modeling Volatility

In this assignment, you will have to implement several statistical methods for the estimation of the volatility
of an equity index.
The S&P 100 equity index is a subset of the S&P 500 including only the 100 U.S. stocks that tend to have
the largest market capitalization and be the most established companies of the S&P 500. The constituents
of the S&P 100 equity index are chosen to respect some sector balance and represented about 63% of the
market capitalization of the S&P 500 and almost 51% of the market capitalization of the U.S. equity markets
in January 20171 .

Instructions
This case study will be started during the online group work session following the lecture. Your group is
expected to work on this project during the session and at home before submission. You will be able to ask
any questions to help you complete the case study during the group online work sessions, the Q&A online
sessions, and on the Blackboard discussion board.
Assignments must be submitted using the R template provided (in both the .Rmd format and the .pdf
format obtained by using the Knit button in RStudio), otherwise assignment will receive a 0.
Late submissions will receive a 0.

1 Moving Average Models (70 marks)


a. (10 marks) Download the S&P 100 equity index (yahoo ticker: ˆOEX) from yahoo finance over the
period between 2005-06-29 and 2020-07-01 and compute its daily log-returns. Plot the price and
log-returns. What can you observe?
b. (10 marks) What are the S&P 100 annualized average log-return, and volatility over the entire data-set
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(use ∆ = 252 for the annualization).

c. (20 marks) Use the moving average model (MA) to estimate the volatility of the S&P 100 with two
different lags: n = 20, and n = 60 over the entire data-set. Plot both results on the same graph and
comment.
1 source: wikipedia.

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d. (20 marks) Use the exponentially weighted moving average model (EWMA) to estimate the volatility
of the EURO STOXX 50 with two different parameters λ = 0.94 and λ = 0.97 over the entire data-set.
You should implement the model with the recursive expression where the initial volatility estimation
σ 2 (t = 0) is based on MA with n = 20. Plot both results on the same graph and comment.
e. (10 marks) Plot on the same graph the estimations using MA with n = 20, EWMA with λ = 0.94
together with the Implied Volatility of the S&P 100 (yahoo ticker: ˆVXO) over the entire data-set,
and comment. In particular, what conclusion can you draw on the level of volatility if you use an
estimation method based on historical data instead of an estimation based on implied volatility?

2 GARCH Models (30 marks)


a. (10 marks) Consider now the GARCH(1,1) model with a mean equal to 0 and the classical normality
assumption for the normalized returns in order to estimate the volatility of the S&P 100 over the entire
period under consideration. Fit the model to the empirical daily log-returns and plot the resulting fitted
volatility together with the previous estimated models (MA with n = 60 and EWMA with a decay of
0.94). Which estimate is the closest to the GARCH(1,1) model estimate?

b. (10 marks) Can you confirm ex-post that the assumption on the parameters of the GARCH(1,1) model
are satisfied?
c. (10 marks) Compute the long-run volatility estimated from the GARCH(1,1) model and plot it on the
same graph as the fitted volatility.

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