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Can currency-based risk factors help forecast exchange rates?

Ahmed, Shamim; Liu, Xiaoquan; Valente, Giorgio

Authors

Shamim Ahmed

Xiaoquan Liu

Giorgio Valente



Abstract

This paper examines time-series predictability of bilateral exchange rates from linear factor models that utilize unconditional and conditional expectations of three currency-based risk factors. Exploiting a comprehensive set of statistical criteria, we find that all versions of the linear factor models largely fail to outperform the benchmark of random walk with drift model in the out-of-sample forecasting of monthly exchange rate returns. This holds true for individual currencies and currency portfolios formed on forward discounts. We also show that the information embedded in the currency-based risk factors does not generate systematic economic value to investors.

Journal Article Type Article
Journal International Journal of Forecasting
Print ISSN 0169-2070
Electronic ISSN 0169-2070
Publisher Elsevier
Peer Reviewed Peer Reviewed
Volume 32
Issue 1
APA6 Citation Ahmed, S., Liu, X., & Valente, G. (in press). Can currency-based risk factors help forecast exchange rates?. International Journal of Forecasting, 32(1), https://doi.org/10.1016/j.ijforecast.2015.01.010
DOI https://doi.org/10.1016/j.ijforecast.2015.01.010
Keywords Exchange rates; Out-of-sample predictability; Economic value; Time series; Econometric models
Publisher URL http://www.sciencedirect.com/science/article/pii/S016920701500062X
Copyright Statement Copyright information regarding this work can be found at the following address: http://creativecommons.org/licenses/by-nc-nd/4.0

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Copyright Statement
Copyright information regarding this work can be found at the following address: http://creativecommons.org/licenses/by-nc-nd/4.0





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