LO 3.3.2.C

Learning Objective: Recognize, calculate, and describe applications of the variances of random walk and autoregressive models.

Review:

• Random walk

The variance of the random process is Var(Yt) = t∙𝜎2

• AR(1)-model

                Volatility as a function of the interest rate level

                where k, 𝛄 are tuning parameters

                Distinctive processes

• 𝛄 = 0 → Ornstein-Uhlenbeck process
• 𝛄 = ½ → CIR-model