On December 12, 2019, Fed in Print will introduce its new platform for discovering content. Please direct your questions to Anna Oates

Home About Latest Browse RSS Advanced Search

Board of Governors of the Federal Reserve System (US)
Finance and Economics Discussion Series
Time-varying Volatility and the Power Law Distribution of Stock Returns
Missaka Warusawitharana
Abstract

While many studies find that the tail distribution of high frequency stock returns follow a power law, there are only a few explanations for this finding. This study presents evidence that time-varying volatility can account for the power law property of high frequency stock returns. The power law coefficients obtained by estimating a conditional normal model with nonparametric volatility show a striking correspondence to the power law coefficients estimated from returns data for stocks in the Dow Jones index. A cross-sectional regression of the data coefficients on the model-implied coefficients yields a slope close to one, supportive of the hypothesis that the two sets of power law coefficients are identical. Further, for most of the stocks in the sample taken individually, the model-implied coefficient falls within the 95 percent confidence interval for the coefficient estimated from returns data.


Download Full text
Cite this item
Missaka Warusawitharana, Time-varying Volatility and the Power Law Distribution of Stock Returns, Board of Governors of the Federal Reserve System (US), Finance and Economics Discussion Series 2016-022, 18 Mar 2016.
More from this series
JEL Classification:
Subject headings:
Keywords: Tail distributions ; high frequency returns ; power laws ; time-varying volatility
DOI: 10.17016/FEDS.2016.022
For corrections, contact Ryan Wolfslayer ()
Fed-in-Print is the central catalog of publications within the Federal Reserve System. It is managed and hosted by the Economic Research Division, Federal Reserve Bank of St. Louis.

Privacy Legal