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52 votes
6 answers
9k views

Which approach dominates? Mathematical modeling or data mining?

According to my current understanding, there is a clear difference between data mining and mathematical modeling. Data mining methods treat systems (e.g., financial markets) as a "black box". The ...
Roman's user avatar
  • 529
40 votes
5 answers
8k views

Why aren't econometric models used more in Quant Finance?

There is a big body of literature on econometric models like ARIMA, ARIMAX or VAR. Yet to the best of my knowledge practically nobody is making use of that in Quantitative Finance. Yes, there is a ...
vonjd's user avatar
  • 27.5k
38 votes
2 answers
15k views

How useful is Markov chain Monte Carlo for quantitative finance?

Naively, it seems that Bayesian modeling, structural models particularly, would be quite useful in finance because of their ability to incorporate market idiosyncrasies and produce accurate ...
DavidShor's user avatar
  • 481
23 votes
8 answers
15k views

Why should we expect geometric Brownian motion to model asset prices?

Disclaimer: I am a complete ignoramus about finance, so this may be an inappropriate forum for me to ask a question in. I am a mathematician who knows nothing about finance. I heard from a popular ...
Mary S's user avatar
  • 231
20 votes
4 answers
6k views

From Fourier Transforms to Option Values

I am trying to understand how Fourier transforms & Characteristics functions can be used to calculate option values. However, I am having difficulty following the process that is used in several ...
sets's user avatar
  • 1,471
19 votes
2 answers
3k views

How to build a regime-switching model which knows its own limits?

In recent months I've come to the conclusion that there are not only certain regimes in the markets (like bear or bull) but phases where all models fail because we are in uncharted territory. The ...
vonjd's user avatar
  • 27.5k
18 votes
2 answers
2k views

From a high frequency point of view, with a price prediction and assuming infinite leverage, how do you determine optimal trade size?

I have read about something like Kelly criterion for long term expectation maximization assuming a fixed starting bankroll. But if one can assume unlimited leverage, and one has a signal for a price ...
Palace Chan's user avatar
  • 1,347
16 votes
3 answers
1k views

What are some research articles on using principle components to generate alpha?

Here's an example by Marco Avellenada from NYU titled "Statistical Arbitrage in the U.S. Equities Market". The idea of this paper involves capturing mean reversion in the residual returns of a ...
Ram Ahluwalia's user avatar
16 votes
2 answers
6k views

Modelling with negative interest rates

For a project, I am interested to model the impact of recently negative interest bonds on the portfolio. The literature on modelling negative interest rates is limited, and the only theory I could ...
user7056's user avatar
  • 728
14 votes
2 answers
2k views

Models crumbling down due to negative (nominal) interest rates

Given that the negative interest rates on a lot of sovereign bonds with maturity under 10 years are trading in the negative (nominal) interest rate territory (recently also the short term EURIBOR has ...
user3612816's user avatar
12 votes
3 answers
808 views

What is a commonly accepted econometric model for volume?

What is the gold standard econometric model for volume? Base model for price changes is the autoregressive (AR) model and GARCH(1,1) for volatility. Is there any survey about econometric models used ...
Qbik's user avatar
  • 1,018
12 votes
4 answers
387 views

Are there any valuation models of securities that use hyperbolic discounting?

To quote Wikipedia: In hyperbolic discounting, valuations fall very rapidly for small delay periods, but then fall slowly for longer delay periods. This contrasts with exponential discounting, in ...
BlackJack's user avatar
  • 395
12 votes
2 answers
11k views

What are the main differences between discrete and continuous time models when modeling asset price dynamics?

My intuition says that both approaches, discrete time models and continuous time models will be models (i.e. approximations) of reality. Therefore it should be possible to develop useful models in ...
snth's user avatar
  • 486
12 votes
1 answer
549 views

Do people use unbounded interest rate models, and what alternatives exist?

A simple interest rate model in discrete time is the autoregressive model, $$ I_{n+1} = \alpha I_n+w_n $$ where $\alpha\in [0,1)$ and $w_n\geq 0$ are i.i.d. random variables. When working with ruin ...
SBF's user avatar
  • 2,623
12 votes
1 answer
532 views

Fixed income modeling

I am currently working on my research paper and trying to explain a two-dimensional variable: volume and instrument of corporate debt financing. Independent variables that I believe must be included ...
FES's user avatar
  • 121
11 votes
7 answers
8k views

What distribution to assume for interest rates?

I am writing a paper with a case study in financial maths. I need to model an interest rate $(I_n)_{n\geq 0}$ as a sequence of non-negative i.i.d. random variables. Which distribution would you advise ...
SBF's user avatar
  • 2,623
11 votes
7 answers
5k views

Are the sin, cos, tan functions used in some financial calculations?

I ask because those functions are on the TI BA II Plus financial calculator. I saw some interesting answers but I don't think a calculator would be practical in their environment.
Pierrick Jaouen's user avatar
11 votes
3 answers
4k views

Model to Predict the Change in IV of an Option

I am looking for a model that would allow me to predict the change in the Implied Volatility of an option based on a hypothetical change in the market. The goal is to create a better simulation of ...
drobertson's user avatar
  • 1,882
11 votes
3 answers
22k views

How to tune Kalman filter's parameter?

I plan to use Kalman filter to estimate saving account amount. However, I'm a bit lost at how to tune the filter's parameters. Taking as the example from the Wikipedia page, basically there are ...
athos's user avatar
  • 2,231
11 votes
1 answer
3k views

Can the Heston model be shown to reduce to the original Black Scholes model if appropriate parameters are chosen?

Summary For Heston model parameters that render the variance process constant, the solution should revert to plain Black-Scholes. Closed from solutions to the Heston model don't seem to do this, even ...
John Tyree's user avatar
11 votes
1 answer
616 views

What to ask for in a good prototyping framework?

Reading up on quantitative methods, model development, and back-testing, one obvious question springs to mind: What should one ask of a prototyping (model testing) framework? I know a lot of people ...
Martin Kristiansen's user avatar
11 votes
1 answer
1k views

Inflation modelling

I am trying to price an option on the Spanish CPI. The option is a European call with a single observation date. However, I am fairly new to inflation modelling, so there are two areas in which I ...
sets's user avatar
  • 1,471
11 votes
3 answers
3k views

What's the correct choice for modeling correlated stock prices?

Let's assume we're happy with simulating $n$ stocks as geometric Brownian motion (GBM). But say we also want the prices to be correlated. When I searched around for how to construct correlated paths, ...
Kurt's user avatar
  • 211
11 votes
1 answer
2k views

Market Making Strategies Found by Hamilton-Jacobi-Bellman Equation

Im working my way through the book "Algorithmic and High-Frequency Trading" (AHFT) by Cartea, Jaimungal and Penalva and i'm curious to see how the market making model with an exponential utility ...
Mesalas's user avatar
  • 113
10 votes
3 answers
776 views

Is it possible to demonstrate that one pricing model is better than another?

Take the classic GBM (geometric Brownian motion) model for equities as an example: ds = mu * S * dt + sigma * S * dW. It is the basis for the classic Black-...
athos's user avatar
  • 2,231
10 votes
2 answers
4k views

What are common methods for modeling intraday trading volume?

What are the most common ways to model intraday trading volume, particularly for futures contracts? There are obviously a number of seasonal-type factors, like roll, economic news releases, time of ...
Thomas Johnson's user avatar
9 votes
3 answers
393 views

How to improve the consistency of explained variance statistics in a linear equity model?

I have an intraday equity returns linear model that, overall, shows good values in terms of $R^2$, p-value and other explained variance statistics. Around 70% of the stocks show consistent R-squared (...
Robert Kubrick's user avatar
9 votes
2 answers
3k views

Looking for a recommendation for a Fund Transfer Pricing modelling book

Recently I started working in a bank as a modeler, one of the possible topic is FTP - Fund Transfer Pricing. After I studied that subject a little on wiki and read a website or two in that field I ...
athos's user avatar
  • 2,231
9 votes
2 answers
2k views

Quantitative Real Estate Investment Finance

I'm wondering if there is an application of quantitative finance to real estate investment? Specifically I'm wondering about models for pricing small neighborhoods (or even single houses) that take ...
jeb's user avatar
  • 91
9 votes
1 answer
2k views

How to 'calibrate' simple pricing models for equity index options and equity options?

I am interested in doing some research on plain vanilla equity options and equity index options. I have historical data for these options. I also happen to have market maker 'fair price' (bid and ask) ...
Homunculus Reticulli's user avatar
9 votes
0 answers
4k views

VaR model Unconditional Coverage Tests: Is this extension of Kupiec POF test correct?

Background: Kupiec P. in 1995, published paper "Techniques for Verifying the Accuracy of Risk Management Models" on Journal of Derivatives, v3, P73-84, it's a Unconditional Coverage Tests designe for ...
athos's user avatar
  • 2,231
8 votes
5 answers
9k views

Predicting price movements on a betting exchange

On a betting exchange the price (the odds that an event will happen expressed as a decimal, 1/(percentage chance event occurring) of a runner can experience a great deal of volatility before the event ...
Peter's user avatar
  • 181
8 votes
3 answers
1k views

How to account for jumps in intraday data when calculating beta?

I am calculating betas on intraday trade data at 15-minute intervals. For simplicity sake, let's assume I am modeling \begin{equation} Y = \beta * X + c \end{equation} where $Y$ is the return of XLF ...
silencer's user avatar
  • 1,553
8 votes
1 answer
1k views

Simple model for option premium (for covered call simulation)?

Given a historical distribution of weekly prices and price changes for a stock, how can I estimate the the option premium for a nearly at-the-money (ATM) option, say with an expiration date 3 months ...
Pete's user avatar
  • 840
8 votes
3 answers
371 views

How to justify a model that could not predict external factors?

I'm building some models, for example, Bad Loan (NPL) rate. It's based on historical simulation method -- basically it's saying the future behavior could be predicted by history data. However, this ...
athos's user avatar
  • 2,231
8 votes
1 answer
752 views

How to model time series of illiquid stocks - 400 observations (transactions) per 8 hours?

How to model time series which are illiquid - 400 observations (transactions) per 8 hours ? Are there models suitable for this situation which incorporate not only size of the transactions but also ...
Qbik's user avatar
  • 1,018
8 votes
2 answers
788 views

Should I use currency hedged or unhedged returns for a global equity allocation model?

I am building a global tactical equity allocation model. The model will help determine an optimal allocation amongst a number of major developed and emerging stock markets (represented for my purposes ...
Tal Fishman's user avatar
  • 13.5k
8 votes
1 answer
3k views

Problems with dealing with GARCH models and intra-day data

A Short question would be "Which type of model from GARCH family is most suitable for modeling 5-minute data returns ?" but I've added some story to it. A Long time ago I was preparing my thesis, one ...
Qbik's user avatar
  • 1,018
8 votes
1 answer
1k views

What is the forward rate for a Black-Karasinski interest rate model?

I was wondering if anyone could help me with the instantaneous forward rate equation for a Black-Karasinski interest rate model? I was also after the Black-Karasinski Bond Option Pricing Formula.
Ian's user avatar
  • 81
7 votes
7 answers
4k views

Recommendation for a book on CVA/Credit Risk and PD/LGD/EAD modeling?

I need suggestions for some good books on the following topics: Credit Value Adjustment (CVA) / Credit Risk Probability of Default / Loss-Given-Default / Exposure-At-Default modeling Any pointers on ...
ladz's user avatar
  • 421
7 votes
1 answer
1k views

Modelling EUR/USD with Ornstein-Uhlenbeck + jumps?

I'm trying to simulate a process as close as possible to EUR/USD of the ten past years. I've used a Ornstein-Uhlenbeck process: $$d X_t = -\theta (X_t - \mu) d t + \sigma d B_t$$ with the parameters $\...
Basj's user avatar
  • 795
6 votes
4 answers
14k views

relation between asset's and equity volatilities - merton model

In terms of Merton credit risk model need to find the initial value of counterparty's assets and the volatility of the assets. Both value are not directly observable thus we have to approximate them ...
Karusmeister's user avatar
6 votes
5 answers
14k views

How many explanatory variables is too many?

When researching any sort of predictive model, whether using ordinary linear regression or more sophisticated methods such as neural networks or classification and regression trees, there seems to ...
Tal Fishman's user avatar
  • 13.5k
6 votes
3 answers
2k views

Modelling and forecasting mixed frequency financial data

I was wondering if someone could provide some guidance to me. I would like to Combine various financial data of mixed frequencies (some daily, weekly, some quarterly) to a composite index. I have ...
qfd's user avatar
  • 255
6 votes
2 answers
4k views

Why do we usually use normal distribution and not Laplace distribution to generate stochastic process?

When working with a stochastic process based on brownian motion, the increments have normal (gaussian) distribution. However, it seems that a Laplace distribution, with density: $$f(t) = \frac{\...
Basj's user avatar
  • 795
6 votes
1 answer
390 views

how are financial data with sparse and asynchronous features imputed in predictive modeling?

I watched a presentation from a large quantitative finance firm that spends a lot of effort around predictive modeling. One of the points the presenter emphasized was that they deal with a lot of ...
pat's user avatar
  • 775
6 votes
1 answer
4k views

GARCH volatility modeling, squared returns, and convergence

After reading some more of Volatility Trading, I decided to try to make a simple volatility model using daily log returns of an ETF I follow. It turns out "simple" is sort of relative. Unfortunately, ...
user avatar
6 votes
2 answers
527 views

Covariance structure of call option surface

Assume the observed call option prices $C(K_i,T_i)$ for $i = 1,\dots,N$ are disturbed by some unknown measurement noise $\epsilon$. What would an appropriate covariance structure be for $\epsilon$? ...
Lotus3000's user avatar
  • 143
5 votes
2 answers
1k views

Ideas about Stochastic volatility models

I am currently working on comparing different models for modelling the volatility and then pricing vanilla options (I use option prices on real stocks in order to calibrate my models and then I ...
Matt59's user avatar
  • 71
5 votes
5 answers
1k views

Physical commodity trading quantitative risk return model

I am very new to commodities, I was previously in portfolio management/optimization (Black Litterman Markowitz etc). I am now a Buy-Sell analyst for Petrochemicals, and need to understand the basic ...
El_1988's user avatar
  • 193

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