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Correlated Volatility Shocks by Dr. Xiao Qiao

Commonality in idiosyncratic volatility cannot be completely explained by time-varying volatility. After removing the effects of time-varying volatility, idiosyncratic volatility innovations are still positively correlated. This result suggests correlated volatility shocks contribute to the co-movement in idiosyncratic volatility.

Motivated by this fact, Dr. Xiao Qiao proposes the Dynamic Factor Correlation (DFC) model, which fits the data well and captures the cross-sectional correlations in idiosyncratic volatility innovations. He decomposes the common factor in idiosyncratic volatility (CIV) of Herskovic et al. (2016) into the volatility innovation factor (VIN) and time-varying volatility factor (TVV). Whereas VIN is associated with strong variation in average returns, TVV is only weakly priced in the cross section

A strategy that takes a long position in the portfolio with the lowest VIN and TVV betas, and a short position in the portfolio with the highest VIN and TVV betas earns average returns of 8.0% per year.

Learn more about the DFC model from Dr. Qiao's presentation, "Correlated Volatility Shocks", from QuantCon NYC 2017:

QuantCon NYC 2018

QuantCon 2018 returns to NYC for its fourth year April 26th-28th. Due to popular demand, we welcome back Dr. Marcos López de Prado, CEO of True Positive Technologies, as a keynote. He will present "The 7 Reasons Most Machine Learning Funds Fail". Our second keynote, Dr. Lauren H. Cohen, L.E. Simmons Professor at Harvard Business School, will present "IQ from IP: Simplifying Search in Portfolio Choice". Other talks include:

  • "Identifying Profitable Mean Reverting Pairs" by Dr. Aidan O'Mahony, Chief Technology Officer at Inventia Life Science
  • "Return Predictability and Market Timing: A One Month Model" by Petra Bakosova, Chief Operating Officer at Hull Tactical
  • "The Seasonality of Price Formation" by Dr. Kerr Hatrick, Executive Director at Morgan Stanley's Electronic Trading Strategist Group
  • "Managing Portfolio Diversity within the Mean Variance Theory" by Dr. Alec Schmidt, Lead Research Scientist at Kensho Technologies

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