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Has Nonlinearity Resolved The A Nomaly Of Unit Root Behaviour In Forward Discount ? New Empirical Evidence

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  • Aidil Rizal SHAHRIN

    (Department of Finance & Banking, Faculty of Business & Accountancy, University of Malaya)

Abstract

In this study we analyse the issue of mean reversion in forward discount based on nonlinear framework for seven currencies. Compared to previous study, we apply a novel approach of a threshold regression (TAR) and followed by nonlinear unit root tests. This approach disentangles tbodhe issue of nonlinearity and nonstationarity in forward discount. After applying nonlinearity test, we found evidence of nonlinearities in five out of seven currencies for the forward discounts. Notably, it is found that forward discount behaves as unit root in a band and becomes mean reverting outside the band. This explains the mixed findings in earlier studies due to general assumption of linearity in forward discount.

Suggested Citation

  • Aidil Rizal SHAHRIN, 2015. "Has Nonlinearity Resolved The A Nomaly Of Unit Root Behaviour In Forward Discount ? New Empirical Evidence," Journal for Economic Forecasting, Institute for Economic Forecasting, vol. 0(1), pages 70-80, March.
    • Handle: RePEc:rjr:romjef:v::y:2015:i:1:p:70-80
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    More about this item

    Keywords

    forward discount; threshold autoregression (TAR); forward bias puzzle; efficiency;
    All these keywords.

    JEL classification:

    • F30 - International Economics - - International Finance - - - General
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods

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