Research articles for the 2020-12-13

A Sentiment Analysis Approach to the Prediction of Market Volatility
Justina Deveikyte,Helyette Geman,Carlo Piccari,Alessandro Provetti

Prediction and quantification of future volatility and returns play an important role in financial modelling, both in portfolio optimization and risk management. Natural language processing today allows to process news and social media comments to detect signals of investors' confidence. We have explored the relationship between sentiment extracted from financial news and tweets and FTSE100 movements. We investigated the strength of the correlation between sentiment measures on a given day and market volatility and returns observed the next day. The findings suggest that there is evidence of correlation between sentiment and stock market movements: the sentiment captured from news headlines could be used as a signal to predict market returns; the same does not apply for volatility. Also, in a surprising finding, for the sentiment found in Twitter comments we obtained a correlation coefficient of -0.7, and p-value below 0.05, which indicates a strong negative correlation between positive sentiment captured from the tweets on a given day and the volatility observed the next day. We developed an accurate classifier for the prediction of market volatility in response to the arrival of new information by deploying topic modelling, based on Latent Dirichlet Allocation, to extract feature vectors from a collection of tweets and financial news. The obtained features were used as additional input to the classifier. Thanks to the combination of sentiment and topic modelling our classifier achieved a directional prediction accuracy for volatility of 63%.

Bihar Assembly Elections 2020: An Analysis
Mudit Kapoor,Shamika Ravi

We analyse the Bihar assembly elections of 2020, and find that poverty was the key driving factor, over and above female voters as determinants. The results show that the poor were more likely to support the NDA. The relevance of this result for an election held in the midst of a pandemic, is very crucial, given that the poor were the hardest hit. Secondly, in contrast to conventional commentary, the empirical results show that the AIMIM-factor and the LJP-factor hurt the NDA while benefitting the MGB, with their presence in these elections. The methodological novelty in this paper is combining elections data with wealth index data to study the effect of poverty on elections outcomes.

Deep Reinforcement Learning for Stock Portfolio Optimization
Le Trung Hieu

Stock portfolio optimization is the process of constant re-distribution of money to a pool of various stocks. In this paper, we will formulate the problem such that we can apply Reinforcement Learning for the task properly. To maintain a realistic assumption about the market, we will incorporate transaction cost and risk factor into the state as well. On top of that, we will apply various state-of-the-art Deep Reinforcement Learning algorithms for comparison. Since the action space is continuous, the realistic formulation were tested under a family of state-of-the-art continuous policy gradients algorithms: Deep Deterministic Policy Gradient (DDPG), Generalized Deterministic Policy Gradient (GDPG) and Proximal Policy Optimization (PPO), where the former two perform much better than the last one. Next, we will present the end-to-end solution for the task with Minimum Variance Portfolio Theory for stock subset selection, and Wavelet Transform for extracting multi-frequency data pattern. Observations and hypothesis were discussed about the results, as well as possible future research directions.1

Portfolio optimization with two quasiconvex risk measures
Çağın Ararat

We study a static portfolio optimization problem with two risk measures: a principle risk measure in the objective function and a secondary risk measure whose value is controlled in the constraints. This problem is of interest when it is necessary to consider the risk preferences of two parties, such as a portfolio manager and a regulator, at the same time. A special case of this problem where the risk measures are assumed to be coherent (positively homogeneous) is studied recently in a joint work of the author. The present paper extends the analysis to a more general setting by assuming that the two risk measures are only quasiconvex. First, we study the case where the principal risk measure is convex. We introduce a dual problem, show that there is zero duality gap between the portfolio optimization problem and the dual problem, and finally identify a condition under which the Lagrange multiplier associated to the dual problem at optimality gives an optimal portfolio. Next, we study the general case without the convexity assumption and show that an approximately optimal solution with prescribed optimality gap can be achieved by using the well-known bisection algorithm combined with a duality result that we prove.

Quantum-accelerated multilevel Monte Carlo methods for stochastic differential equations in mathematical finance
Dong An,Noah Linden,Jin-Peng Liu,Ashley Montanaro,Changpeng Shao,Jiasu Wang

Inspired by recent progress in quantum algorithms for ordinary and partial differential equations, we study quantum algorithms for stochastic differential equations (SDEs). Firstly we provide a quantum algorithm that gives a quadratic speed-up for multilevel Monte Carlo methods in a general setting. As applications, we apply it to compute expection values determined by classical solutions of SDEs, with improved dependence on precision. We demonstrate the use of this algorithm in a variety of applications arising in mathematical finance, such as the Black-Scholes and Local Volatility models, and Greeks. We also provide a quantum algorithm based on sublinear binomial sampling for the binomial option pricing model with the same improvement.

Risk & returns around FOMC press conferences: a novel perspective from computer vision
Alexis Marchal

I propose a new tool to characterize the resolution of uncertainty around FOMC press conferences. It relies on the construction of a measure capturing the level of discussion complexity between the Fed Chair and reporters during the Q&A sessions. I show that complex discussions are associated with higher equity returns and a drop in realized volatility. The method creates an attention score by quantifying how much the Chair needs to rely on reading internal documents to be able to answer a question. This is accomplished by building a novel dataset of video images of the press conferences and leveraging recent deep learning algorithms from computer vision. This alternative data provides new information on nonverbal communication that cannot be extracted from the widely analyzed FOMC transcripts. This paper can be seen as a proof of concept that certain videos contain valuable information for the study of financial markets.

The Deep Parametric PDE Method: Application to Option Pricing
Kathrin Glau,Linus Wunderlich

We propose the deep parametric PDE method to solve high-dimensional parametric partial differential equations. A single neural network approximates the solution of a whole family of PDEs after being trained without the need of sample solutions. As a practical application, we compute option prices in the multivariate Black-Scholes model. After a single training phase, the prices for different time, state and model parameters are available in milliseconds. We evaluate the accuracy in the price and a generalisation of the implied volatility with examples of up to 25 dimensions. A comparison with alternative machine learning approaches, confirms the effectiveness of the approach.

Trends, Reversion, and Critical Phenomena in Financial Markets
Christof Schmidhuber

Financial markets across all asset classes are known to exhibit trends. These trends have been exploited by traders for decades. Here, we empirically measure when trends revert, based on 30 years of daily futures prices for equity indices, interest rates, currencies and commodities. We find that trends tend to revert once they reach a critical level of statistical significance. Based on polynomial regression, we carefully measure this critical level. We find that it is universal across asset classes and has a universal scaling behavior, as the trend's time horizon runs from a few days to several years. The corresponding regression coefficients are small, but statistically highly significant, as confirmed by bootstrapping and out-of-sample testing. Our results signal to investors when to exit a trend. They also reveal how markets have become more efficient over the decades. Moreover, they point towards a potential deep analogy between financial markets and critical phenomena: our analysis supports the conjecture that financial markets can be modeled as statistical mechanical ensembles of Buy/Sell orders near critical points. In this analogy, the trend strength plays the role of an order parameter, whose dynamcis is described by a Langevin equation with a quartic potential.