Volatility Smiles
Volatility Smiles
Volatility Smiles
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‣ The parameter λ must be greater than zero and less than one.The more recent the return, the more weight is attached. Thesum extends back to the beginning of time.‣ The coefficient of 1 − λ ensures that the weights all add toone. This expression can be simplified to, Mean Reversion and GARCH Models‣ If we believe that volatility tends to vary about a long-termmean σ, then we could use,13