Forecasting yield volatility, Financial Management

There are several methods available to forecast yield volatility. But before that, let us look into the calculation of forecasted standard deviation.

Assume that a trader wants to forecast volatility at the end of 07/08/2007, by using the 20 most recent days of trading and update the forecast at the end of each trading day. To calculate these, the trader can calculate a 20-day moving average of the daily percentage yield change.

Still now it has been assumed that the moving average is an appropriate value to use for the expected value of the change in yield. But, some experts view that it would be more appropriate to assume the expected value of the change in yield to be zero. In eq. (1) by substituting zeros in place of moving average X, we get

         Variance =  380_forecasting yield volatility.png                                                                                       ...Eq (2) 

An equal weightage is assigned to all observations by the daily standard deviation given by equation 2. Therefore, a weightage of 20% for each day is given if the trader is calculating volatility based on the most recent 20 days of trading.

Greater weightage is given to recent movements in the yield or price while determining volatility, and less weightage is given to the observations that are farther in the past. Revising equation 2 to include the weightages we get,

         Variance =  1498_forecasting yield volatility1.png                                                                                        ...Eq. (3)

Wt is the weight assigned to the observations t. The sum of all the weights assigned to the observation will be equal to 1.

A time series characteristic of financial assets suggests that a high volatility period is followed by a high volatility period and a low volatility period is followed by a low volatility period. From this observation, we can tell that the recent past volatility influences current volatility. This time series property of volatility can be estimated with the help of statistical models like autoregressive conditional heteroskedasticity.

Posted Date: 9/10/2012 3:46:53 AM | Location : United States







Related Discussions:- Forecasting yield volatility, Assignment Help, Ask Question on Forecasting yield volatility, Get Answer, Expert's Help, Forecasting yield volatility Discussions

Write discussion on Forecasting yield volatility
Your posts are moderated
Related Questions
Rating denote an issuer's ability to respond to adverse changes in circumstances and economic conditions. The rating scale is generally differentiated into variou

When an investor buys a bond in between coupon payments, he is supposed to compensate the seller with the coupon interest earned on the bond from the last coupon

A technique for knowing a company's worth that is based on earnings and book value. It is also known as the residual income model, it seems at whether management's decisions cause

At 31 July 2010 this instrument meets the definition of a derivative: Small or no initial investment. Its value is dependent on an underlying economic item; exchange ra

Explain about the term- Contingent liabilities Under IAS 37 provisions, contingent assets and contingentliabilities, contingent liabilities aren't recognised in the financia

Q. The main rationale for the objective of wealth maximization is that it shows the most efficient use of the society's economic resources and therefore leads to a maximization of

Wing Yin Tsui, CEO of Lian Huang & Wong Bin Dean Hwang Manufacturing Limited is considering a four year project. The project requires an initial investment of $10,000,000 to buy ne

Question: Susan started her current job at age 30, with the normal retirement age at 60. The remuneration package of her employment includes the following benefits on top of he

INSTRUCTIONS Download the 2011 Annual Report for Marks and Spencer PLC, from the link provided on Study Space. Review the Annual Report, paying particular attention to the Fin

Illustration  Vishal Mehta & Co., Mumbai issued 7%, 5-year bond on 31st December 2006. The par value of a bond is Rs. 100. This bond pays interest annually and