Empirical Finance Spring II 2020 Forecasting Project: Due 4/30/2020 The objective is to predict the May 8th values (closing price) of the S&P 500 index and CBOE VIX using information which was available at the end of April (April 30th, 2020). • Download daily data of the S&P 500 index and CBOE VIX. According to the FRED (Federal Reserve Bank of St. Louis) website, data are available from March 29th, 2010 and January 2nd, 1990 for the S&P 500 index and VIX, respectively. You can also include other variables for prediction. • For example, suppose that you were to use information available at the end of March and predict the April 3rd (Close*) of the S&P 500. You need to provide your choice of – the prediction model: specify the regression equation – the data: predictor variables, sample period. If you are not relying on any model, you need to explain how your forecasts are derived. You may take log of variables and run regressions. But, the final forecasts should be reported in the original unit. For ease of illustration, let Pt = 2584.59 indicate the closing price on Mar 31, 2020 and PT indicate the closing price on April 3, 2020. According to the Efficient Market Hypothesis, stock prices evolve according to a random-walk process. So you may report Et[lnPT ] = lnPt as your prediction about the April 3rd value. Make sure you report exp(Et[lnPT ]) which is in the original unit. • We learned in class that it is extremely difficult to predict short-horizon price move- ments. There is no right answer for this project because of its nature. It is totally possible that just a random guess could turn out to be a better forecast than other model-implied forecasts. That said, the grading policy would be based on PT−Et[Pt] PT Points ± 1% 10 ± 2% 8 ± 3% 6 ± 4% 4 ± 5% 2 For example, if the difference between your forecast Et[PT ] and the actual value PT is less than 1% of the actual value PT , then you will get 10 points. If it is greater than 5%, then you will receive 0 point. So far, the compensation will be based on the final forecasts only. The maximum points are 20 for forecasting the S&P 500 and VIX index. The other 10 points can be rewarded based on the justification of your approach. You may try with the historical data and provide some evidence as one of justifications. 2