This paper describes active investment strategy used in the central bank of Estonia and introduces model-based investment decisions as a component of that strategy. The first chapter of the paper describes the evolution of the investment process in Eesti Pank and outlines the framework of reserve management. It describes the role of several forms and styles of investing: active and passive management, qualitative and quantitative management, emphasizing the role of diversification for achieving better performance. The chapter concludes with the description of the investment strategy used in the central bank of Estonia. The second chapter describes model-based investing as part of active management strategy. Three investment models are estimated and tested: a model for directional positions in the US, German and Japanese 10-year government bond futures, a model for cross-currency positions in ten major currencies, and a model for cross-country yield spread trades in eight major government bond markets. The models extend the framework developed by Ilmanen and Sayood (Ilmanen et al. 2002). After the model estimation the models are combined with a trend-following model and the whole set of diversified models is tested. Finally, correlation study of these results with the results of external asset managers and in-bank discretionary analysis is performed. The paper ends with a discussion on the possibilities for further development of the quantitative investment program and conclusions.
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Find related papers by JEL classification: E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy E47 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Forecasting and Simulation E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies F37 - International Economics - - International Finance - - - International Finance Forecasting and Simulation G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
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