Jones, Christopher S.: The Dynamics of Stochastic Volatility
World Conference Econometric Society, 2000, Seattle

Christopher S. Jones, University of Rochester
The Dynamics of Stochastic Volatility
Session: C-10-23  Tuesday 15 August 2000  by Jones, Christopher S.
In this paper I estimate a more general parametric stochastic variance model of equity index returns than has been previously considered using data from both the underlying and options markets. The parameters of the model under both the objective and risk-neutral measures are estimated simultaneously. I conclude that the square root stochastic variance model of Heston (1993) and others is incapable of generating realistic returns behavior and find that the data are better represented by a stochastic variance model in the CEV class. Specifically, I find that when the level of market variance increases, the volatility of market variance increases rapidly as well. The heightened heteroskedasticity in market variance that results causes returns under the CEV model to display values of skewness and kurtosis much more consistent with their sample values and, to a lesser extent, observed options prices.


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