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Multifractality and value-at-risk forecasting of exchange rates

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  • Batten, Jonathan A.
  • Kinateder, Harald
  • Wagner, Niklas

Abstract

This paper addresses market risk prediction for high frequency foreign exchange rates under nonlinear risk scaling behaviour. We use a modified version of the multifractal model of asset returns (MMAR) where trading time is represented by the series of volume ticks. Our dataset consists of 138,418 5-min round-the-clock observations of EUR/USD spot quotes and trading ticks during the period January 5, 2006 to December 31, 2007. Considering fat-tails, long-range dependence as well as scale inconsistency with the MMAR, we derive out-of-sample value-at-risk (VaR) forecasts and compare our approach to historical simulation as well as a benchmark GARCH(1,1) location-scale VaR model. Our findings underline that the multifractal properties in EUR/USD returns in fact have notable risk management implications. The MMAR approach is a parsimonious model which produces admissible VaR forecasts at the 12-h forecast horizon. For the daily horizon, the MMAR outperforms both alternatives based on conditional as well as unconditional coverage statistics.

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Bibliographic Info

Article provided by Elsevier in its journal Physica A: Statistical Mechanics and its Applications.

Volume (Year): 401 (2014)
Issue (Month): C ()
Pages: 71-81

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Handle: RePEc:eee:phsmap:v:401:y:2014:i:c:p:71-81

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Web page: http://www.journals.elsevier.com/physica-a-statistical-mechpplications/

Related research

Keywords: High frequency exchange rates; Multifractality; MMAR; Value-at-risk; Foreign exchange risk forecasting;

References

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