Is the diurnal pattern sufficient to explain intraday variation in volatility? A nonparametric assessment

By Kim Christensen, Ulrich Hounyo, Mark Podolskij. Journal of Econometrics, 2017

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In this paper, we propose a nonparametric way to test the hypothesis that time-variation in intraday volatility is caused solely by a deterministic and recurrent diurnal pattern. We assume that noisy high-frequency data from a discretely sampled jump-diffusion process are available. The test is then based on asset returns, which are deflated by a model-free jump- and noise-robust estimate of the seasonal component and therefore homoscedastic under the null. The t-statistic (after pre-averaging and jump-truncation) diverges in the presence of stochastic volatility and has a standard normal distribution otherwise. We prove that replacing the true diurnal factor with our estimator does not affect the asymptotic theory. A Monte Carlo simulation also shows this substitution has no discernable impact in finite samples. The test is, however, distorted by small infinite-activity price jumps. To improve inference, we propose a new bootstrap approach, which leads to almost correctly sized tests of the null hypothesis. We apply the developed framework to a large cross-section of equity high-frequency data and find that the diurnal pattern accounts for a rather significant fraction of intraday variation in volatility, but important sources of heteroscedasticity remain present in the data.

Subfields: Economics and Econometrics, Finance

View Paper: https://www.semanticscholar.org/paper/ede9cb18bfa7bf31dc51d6443ffc61a46fb584e9

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