Modeling shocks in long-term equity returns

Abstract

In this paper we develop a model for equity returns that is aimed at long-term forecasting and risk management applications. We first analyse the yearly S&P 500 total return index data and review some common models for equity returns. Subsequently we develop a Gamma Jump Random Walk model for equity returns and estimate it through the Maximum Likelihood and Markov Chain Monte-Carlo methods. In the final section we present simulations of the model. Avainsanat/Nyckelord/Keywords: Equity return shocks, jump random walk, risk management