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Exploiting The Information Of Stock Market To Forecast Exchange Rate Movements

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  • Manish KUMAR

    () (PhD student, "Indian Institute of Technology Madras”, India)

Abstract

The present study examines dynamic relation between stock index and exchange rate by using the daily data for India. The empirical evidence suggests that there is no long-run relationship; how-ever, there is bidirectional causality between stock index and exchange rates. The findings of the causality tests strongly support portfolio or macroeconomic approach on the relationship between ex-change rates and stock prices. An attempt is also made to forecast daily returns of INR/USD exchange rates by exploiting the information of causal relationship between exchange rates and stock index us-ing Vector autoregression (VAR) model. VAR’s out-of-sample performance is benchmarked against the traditional ARIMA model. The potential of the two models are rigorously evaluated by employing a cross-validation scheme and statistical metrics like mean absolute error, root mean square error and directional accuracy. Out-of-sample performance shows that VAR model is robust, and consis-tently produces superior predictions than ARIMA model.

Suggested Citation

  • Manish KUMAR, 2009. "Exploiting The Information Of Stock Market To Forecast Exchange Rate Movements," Analele Stiintifice ale Universitatii "Alexandru Ioan Cuza" din Iasi - Stiinte Economice, Alexandru Ioan Cuza University, Faculty of Economics and Business Administration, vol. 56, pages 563-575, November.
  • Handle: RePEc:aic:journl:y:2009:v:56:p:563-575
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    References listed on IDEAS

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