Approximating non-Gaussian Bayesian networks using minimum information vine model with applications in financial modelling

O. Chatrabgoun, A. Hosseinian-Far, V. Chang, N.G. Stocks, A. Daneshkhah

Research output: Contribution to journalArticle

Abstract

Many financial modeling applications require to jointly model multiple uncertain quantities to present more accurate, near future probabilistic predictions. Informed decision making would certainly benefit from such predictions. Bayesian networks (BNs) and copulas are widely used for modeling numerous uncertain scenarios. Copulas, in particular, have attracted more interest due to their nice property of approximating the probability distribution of the data with heavy tail. Heavy tail data is frequently observed in financial applications. The standard multivariate copula suffer from serious limitations which made them unsuitable for modeling the financial data. An alternative copula model called the pair-copula construction (PCC) model is more flexible and efficient for modeling the complex dependence of financial data. The only restriction of PCC model is the challenge of selecting the best model structure. This issue can be tackled by capturing conditional independence using the Bayesian network PCC (BN-PCC). The flexible structure of this model can be derived from conditional independences statements learned from data. Additionally, the difficulty of computing conditional distributions in graphical models for non-Gaussian distributions can be eased using pair-copulas. In this paper, we extend this approach further using the minimum information vine model which results in a more flexible and efficient approach in understanding the complex dependence between multiple variables with heavy tail dependence and asymmetric features which appear widely in the financial applications.
Original languageEnglish
Pages (from-to)266-276
Number of pages11
JournalJournal of Computational Science
Volume24
Early online date6 Sep 2017
DOIs
Publication statusE-pub ahead of print - 6 Sep 2017

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Information model
Copula
Financial modeling
Bayesian networks
Modeling
Heavy tails
Conditional independence
Prediction
Financial data
Probability distribution
Non-Gaussian distributions
Tail dependence
Conditional distribution
Decision making
Graphical models
Scenarios

Cite this

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abstract = "Many financial modeling applications require to jointly model multiple uncertain quantities to present more accurate, near future probabilistic predictions. Informed decision making would certainly benefit from such predictions. Bayesian networks (BNs) and copulas are widely used for modeling numerous uncertain scenarios. Copulas, in particular, have attracted more interest due to their nice property of approximating the probability distribution of the data with heavy tail. Heavy tail data is frequently observed in financial applications. The standard multivariate copula suffer from serious limitations which made them unsuitable for modeling the financial data. An alternative copula model called the pair-copula construction (PCC) model is more flexible and efficient for modeling the complex dependence of financial data. The only restriction of PCC model is the challenge of selecting the best model structure. This issue can be tackled by capturing conditional independence using the Bayesian network PCC (BN-PCC). The flexible structure of this model can be derived from conditional independences statements learned from data. Additionally, the difficulty of computing conditional distributions in graphical models for non-Gaussian distributions can be eased using pair-copulas. In this paper, we extend this approach further using the minimum information vine model which results in a more flexible and efficient approach in understanding the complex dependence between multiple variables with heavy tail dependence and asymmetric features which appear widely in the financial applications.",
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Approximating non-Gaussian Bayesian networks using minimum information vine model with applications in financial modelling. / Chatrabgoun, O.; Hosseinian-Far, A.; Chang, V.; Stocks, N.G.; Daneshkhah, A.

In: Journal of Computational Science, Vol. 24, 06.09.2017, p. 266-276.

Research output: Contribution to journalArticle

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