Modeling Financial Time Series with S-Plus®

Abstract

The regression theory of Chapter 6 and the VAR models discussed in the previous chapter are appropriate for modeling I(0) data, like asset returns or growth rates of macroeconomic time series. Economic theory often implies equilibrium relationships between the levels of time series variables that are best described as being I(1). Similarly, arbitrage arguments imply that the I(1) prices of certain financial time series are linked. This chapter introduces the statistical concept of cointegration that is required to make sense of regression models and VAR models with I(1) data.