Relation between financial market structure and the real economy: comparison between clustering methods

PloS One
Nicoló MusmeciT Di Matteo

Abstract

We quantify the amount of information filtered by different hierarchical clustering methods on correlations between stock returns comparing the clustering structure with the underlying industrial activity classification. We apply, for the first time to financial data, a novel hierarchical clustering approach, the Directed Bubble Hierarchical Tree and we compare it with other methods including the Linkage and k-medoids. By taking the industrial sector classification of stocks as a benchmark partition, we evaluate how the different methods retrieve this classification. The results show that the Directed Bubble Hierarchical Tree can outperform other methods, being able to retrieve more information with fewer clusters. Moreover,we show that the economic information is hidden at different levels of the hierarchical structures depending on the clustering method. The dynamical analysis on a rolling window also reveals that the different methods show different degrees of sensitivity to events affecting financial markets, like crises. These results can be of interest for all the applications of clustering methods to portfolio optimization and risk hedging [corrected].

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Citations

Mar 10, 2018·Behavior Research Methods·Alexander P ChristensenThomas R Kwapil
Oct 2, 2020·Biological & Pharmaceutical Bulletin·Tadahaya MizunoHiroyuki Kusuhara
Jan 14, 2017·Physical Review. E·Wolfram BarfussTomaso Aste
Aug 28, 2021·International Journal of Environmental Research and Public Health·James Ming ChenVatroslav Zovko
Jun 29, 2018··Rohayu Mohd SallehLim San Yee

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