Financial Markets and Portfolio Management

, Volume 33, Issue 4, pp 417–445 | Cite as

Incorporating financial market volatility to improve forecasts of directional changes in Australian share market returns

  • Riza Erdugan
  • Nada Kulendran
  • Riccardo NatoliEmail author


This study examines whether incorporating volatility improves the forecast of directional changes in the returns of Australia’s banking, industrial and resource sectors. This study first estimates a benchmark non-volatility logit regression model and assesses it against four estimated volatility logit models measured by mean absolute deviation, standard deviation, return squared (U2) and range. An out-of-sample prediction performance, assessed by Brier’s QPS statistic and hit ratio, confirms that volatility improves the prediction of directional changes of returns. A simple trading strategy is utilized to provide practical improvement in investors’ market timing decisions.


Binary regression model Volatility estimates Marginal probability Forecast comparison 

JEL Classification




We would like to thank the editor Markus Schmid and the anonymous referees for their constructive recommendations, which helped to improve the quality of this paper. In addition, we would like to thank the feedback received during prior drafts from colleagues Dr. Guneratne Wickremasinghe and Dr. Ranjtih Ihalanayake.


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Copyright information

© Swiss Society for Financial Market Research 2019

Authors and Affiliations

  1. 1.Victoria University Business SchoolVictoria UniversityMelbourneAustralia

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