Modelling price dynamics: A hybrid truncated Levy Flight-GARCH approach

ARCH and GARCH stochastic processes are widely used in finance and are generally accepted as good approximations when modelling the price dynamics with Gaussian conditional probability. It can be seen that certain aspects of the empirical data for asset price changes seems to more closely fa a Truncated Levy Flight or GARCH model, but each with individual shortfalls. In this paper therefore, we combine the GARCH process with a conditional truncated Levy distribution in order to build a hybrid model that most notably describes the price change and associated volatility probability density distributions and scaling behaviour over different time horizons. (C) 2013 Elsevier B.V. All rights reserved.