Journal
JOURNAL OF ECONOMETRICS
Volume 189, Issue 2, Pages 335-345Publisher
ELSEVIER SCIENCE SA
DOI: 10.1016/j.jeconom.2015.03.027
Keywords
State space models; Dynamic copulas; Bayesian estimation; Particle filters; Credit default swaps
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Funding
- Fama Miller Center for Research in Finance
- Chicago Booth
- William Ladany Faculty Scholar Fund at the University of Chicago Booth School of Business
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We build a class of copula models that captures time-varying dependence across large panels of financial assets. Our models nest Gaussian, Student's t, grouped Student's t, and generalized hyperbolic copulas with time-varying correlations matrices, as special cases. We introduce time-variation into the densities by writing them as factor models with stochastic loadings. The proposed copula models have flexible dynamics and heavy tails yet remain tractable in high dimensions due to their factor structure. Our Bayesian estimation approach leverages a recent advance in sequential Monte Carlo methods known as particle Gibbs sampling which can draw large blocks of latent variables efficiently and in parallel. We use this framework to model an unbalanced, 200-dimensional panel consisting of credit default swaps and equities for 100 US corporations. Our analysis shows that the grouped Student's t stochastic copula is preferred over seven competing models. (C) 2015 Elsevier B.V. All rights reserved.
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