Determining the number of factors after stationary univariate transformations

A very common practice when extracting factors from non-stationary multivariate time series is to differentiate each variable in the system. As a consequence, the ratio between variances and the dynamic dependence of the common and idiosyncratic differentiated components may change with respect to the original components. In this paper, we analyze the effects of these changes on the fnite sample properties of several procedures to determine the number of factors. In particular, we consider the information criteria of Bai and Ng (2002), the edge distribution of Onatski (2010) and the ratios of eigenvalues proposed by Ahn and Horenstein (2013). The performance of these procedures when implemented to differentiated variables depends on both the ratios between variances and dependencies of the differentiated factor and idiosyncratic noises. Furthermore, we also analyze the role of the number of factors in the original non-stationary system as well as of its temporal and cross-sectional dimensions.

CORONA Francisco;  PONCELA BLANCO Maria Del Pilar;  RUIZ Esther; 

2016-12-01

PHYSICA-VERLAG GMBH & CO

JRC102556

0377-7332,   

http://link.springer.com/article/10.1007/s00181-016-1158-5,    https://publications.jrc.ec.europa.eu/repository/handle/JRC102556,   

10.1007/s00181-016-1158-5,