Regime Shifts Turkington QWAFAFEW

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Regime Shifts and Markov-Switching Models: Implications for Dynamic Strategies David Turkington, CFA Portfolio and Risk Management Group State Street Associates August 16, 2011 Outline Introduction to Hidden Markov Models Turbulence, inflation, and economic growth regimes Investable risk premia: out-of-sample performance f f Dynamic asset allocation: out-of-sample performance Summary 2 Introduction to Hidden Markov Models A simple example 3 Introduction to Hidden Markov Models ã Imag
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  Regime Shifts and Markov-Switching Models:Implications for Dynamic Strategies David Turkington, CFA  State Street AssociatesAugust 16, 2011  Outline Introduction to Hidden Markov ModelsTurbulence, inflation, and economic growth regimesInvestable risk premia: out-of-sample performanceDynamic asset allocation: out-of-sample performance 22  Introduction to Hidden Markov Models A simple example 3  Introduction to Hidden Markov Models ã’ one-minute intervals.ãWhile the person is sleeping, we observe a low average heart rate with low volatility.ãWhen the person wakes up, we notice a sudden rise in the average level of the heart rate and itsvolatility.ãWithout seeing the person, we can reasonably conclude which “state” he or she is in. The heart ratedata follows a Markov process –at any point in time, a “state” (or regime) generates observations froma specific distribution. 44
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