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A Nonlinear Analysis of Forward Premium and Volatility

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  • Hsu Chiente

    ()
    (Department of Economics University of Bern)

  • Kugler Peter

    ()
    (Department of Economics University of Bern)

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    Abstract

    In this paper we investigate the relationship between risk premium and a time-varying conditional variance of spot rate using weekly Swiss franc/US dollar exchange-rate data. First, we apply an EGARCH-in-mean framework to test the unbiasedness hypothesis of the forward rate with a volatility dependent risk premium. The corresponding estimates point to no significant influence of volatility on the risk premium, and reject the unbiasedness hypothesis. Second, we apply a seminonparametric, nonlinear impulse-response analysis to the spot-rate change and the forward premium. This framework allows us to analyze the risk premium/volatility relationship without using a specific, parametric model such as EGARCH-in-mean. The latter analysis confirms the negative EGARCH-in-mean results with respect to the risk premium/volatility relationship, although the volatility dynamics estimated is clearly different from that implied by the EGARCH estimate. Moreover, the forward premium has a nonlinear dynamic influence on the spot rate, whereas the converse is not true.

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    File URL: http://www.degruyter.com/view/j/snde.1997.1.4/snde.1997.1.4.1022/snde.1997.1.4.1022.xml?format=INT
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    Bibliographic Info

    Article provided by De Gruyter in its journal Studies in Nonlinear Dynamics & Econometrics.

    Volume (Year): 1 (1997)
    Issue (Month): 4 (January)
    Pages: 1-17

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    Handle: RePEc:bpj:sndecm:v:1:y:1997:i:4:n:2

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    Web page: http://www.degruyter.com

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    Web: http://www.degruyter.com/view/j/snde

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    Cited by:
    1. Clements, Michael P. & Smith, Jeremy, 2001. "Evaluating forecasts from SETAR models of exchange rates," Journal of International Money and Finance, Elsevier, vol. 20(1), pages 133-148, February.

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