Webinar 2 - last question

[madinthemind]

Hi, i know 'm really late for the webinars. however, i tried all the questions. wasn't very successful. Anyways, need sum help in the last questions:
1) Why do you calculate gamma. the final variance formula doesn't use it.
2) Don't we have to square the mean to multiply with the beta. (your formula doesn't square the return)
pls help. thanks

 

[David Harper CFA FRM]

Hi madinthemind (no insult meant!)

I guess you refer to the EB #2 practice questions? http://www.bionicturtle.com/learn/article/volatility_practice_webinar/

1) Why do you calculate gamma. the final variance formula doesn't use it.
I didn't *need* to, you are right about that, since omega is an input.
But i like to keep straight that omega is the weighted long-run variance not the long run variance per se. So:
GARCH (1,1) variance est = omega + (alpha) *return^2 + (beta)*variance
= (gamma)(long run variance) * (alpha) *return^2 + (beta)*variance

it's just mentallly, to keep straight, that gamma is a weight, like alpha and beta, not a parameter.

2) Yes, i agree and it does, GARCH blends a lagged, weighted squared return and a lagged variance
so please note, my Variance formula does include (alpha)*return^2
beta is multiplied by the variance, so that implicty is already squared.

Thanks, hope that helps, David

 

[madinthemind]

no insult taken!
Thank you for your response!
puts my mind at peace! the stuff feels difficult already...