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Conditional value-at-risk forecasts of an optimal foreign currency portfolio

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  • Kim, Dongwhan
  • Kang, Kyu Ho

Abstract

This study provides daily conditional value-at-risk (C-VaR) forecasts for a foreign currency portfolio comprising the USD/EUR, USD/JPY, and USD/BRL currencies. To do so, we estimate multivariate stochastic volatility models with time-varying conditional correlations using a Bayesian Markov chain Monte Carlo algorithm. Then, given the model-specific currency return density forecasts, we make the optimal portfolio choice by minimizing the C-VaR through numerical optimization. According to out-of-sample experiment, including emerging markets into the currency basket is essential for downside risk management, and considering model uncertainty as well as the parameter uncertainty can improve the portfolio performance.

Suggested Citation

  • Kim, Dongwhan & Kang, Kyu Ho, 2021. "Conditional value-at-risk forecasts of an optimal foreign currency portfolio," International Journal of Forecasting, Elsevier, vol. 37(2), pages 838-861.
    • Handle: RePEc:eee:intfor:v:37:y:2021:i:2:p:838-861
    DOI: 10.1016/j.ijforecast.2020.09.011
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