GARCH_models_for_TSA.Rmd

---
title: "GARCH_models_for_TSA"
author: "Aakash Khandelwal"
date: "July 3, 2016"
output: html_document
---

```{r setup, include=FALSE}
knitr::opts_chunk$set(echo = TRUE)
```


```{r}
# collection of random variables is heteroskedastic if there are certain groups, or subsets, of 
# variables within the larger set that have a different variance from the remaining variables.
#  an increase in variance is correlated to a further increase in variance. = Conditional
#  volatility itself is hard to detect purely from the correlogram.

# ARCH model - the variance of an ARCH(1) process follows an AR(1) process
# GARCH is the "ARMA equivalent" of ARCH
# Simulate GARCH(1,1)
set.seed(2)
a0 <- 0.2 # intercept
a1 <- 0.5 # AR(1) parameter
b1 <- 0.3 # MA(1) parameter
w <- rnorm(10000) # random white noise
eps <- rep(0, 10000) # Time series values
sigsq <- rep(0, 10000) # ARMA variances
for (i in 2:10000) {
  sigsq[i] <- a0 + a1 * (eps[i-1]^2) + b1 * sigsq[i-1]
  eps[i] <- w[i]*sqrt(sigsq[i])
}
head(sigsq)
head(eps)
acf(eps) # Correlogram
acf(eps^2) #Correlogram of square of series

# Fit a GARCH model
library(tseries)
eps.garch <- garch(eps, trace=FALSE)
eps.garch
confint(eps.garch) # Confidence interval 

# Fitting on financial data - FTSE 100
library(quantmod)
getSymbols("^FTSE")
ftrt = diff(log(Cl(FTSE))) 
plot(ftrt)
ft <- as.numeric(ftrt)
ft <- ft[!is.na(ft)]

# Fit ARIMA, see ARIMA file for more details
ftfinal.aic <- Inf
ftfinal.order <- c(0,0,0)
for (p in 1:4) 
  for (d in 0:1) 
    for (q in 1:4) {
      ftcurrent.aic <- AIC(arima(ft, order=c(p, d, q)))
      if (ftcurrent.aic < ftfinal.aic) {
        ftfinal.aic <- ftcurrent.aic
        ftfinal.order <- c(p, d, q)
        ftfinal.arima <- arima(ft, order=ftfinal.order)
      }
    }
ftfinal.order # ARIMA(4,0,4)
# to test whether the residuals of this model fit possess evidence of conditional heteroskedastic behaviour
acf(resid(ftfinal.arima)) # good fir of DWN, and hence ARIMA(4,0,4) is good fit
acf(resid(ftfinal.arima)^2) # for conditional heteroskedastic (CH)
# clear evidence of serial correlation
# CH is present in differenced log return of FTSE

# Fit GARCH model using tseries package
ft.garch <- garch(ft, trace=F) # trace=F, helps to supress excessive output
ft.res <- ft.garch$res[-1] # remove first element of residuals as it is NA
acf(ft.res) # DWN
acf(ft.res^2) # GARCH test, showing DWN

 
```