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Title: Optimal Forecast Combination Under Regime Switching

Author(s): Graham Elliott and Allan G Timmermann

Publication Date: October 2004

Keyword(s): forecast combination, Markov switching, survey data and time-varying combination weights

Programme Area(s): International Macroeconomics

Abstract: This Paper proposes a new forecast combination method that lets the combination weights be driven by regime switching in a latent state variable. An empirical application that combines forecasts from survey data and time series models finds that the proposed regime switching combination scheme performs well for a variety of macroeconomic variables. Monte Carlo simulations shed light on the type of data generating processes for which the proposed combination method can be expected to perform better than a range of alternative combination schemes. Finally, we show how time-variations in the combination weights arise when the target variable and the predictors share a common factor structure driven by a hidden Markov process.

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Bibliographic Reference

Elliott, G and Timmermann, A. 2004. 'Optimal Forecast Combination Under Regime Switching'. London, Centre for Economic Policy Research. https://cepr.org/active/publications/discussion_papers/dp.php?dpno=4649