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The Probability Distribution of Foreign Exchange Price Changes: Tests of Candidate Processes

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  • Tucker, Alan L
  • Pond, Lallon

Abstract

This study investigates empirically candidate processes for characterizing foreign exchange price changes measured over limited horizons. Extant empirical studies find distributions of exchange returns too long-tailed and leptokurtic to satisfy normality. Four processes are investigated here because of their potential to model o bserved discontinuities in exchange rates and nonstationary sample moments, as well as their economic appeal. The results favor a mixed-jump model for all six major trading currencies tested. Copyright 1988 by MIT Press.

Suggested Citation

  • Tucker, Alan L & Pond, Lallon, 1988. "The Probability Distribution of Foreign Exchange Price Changes: Tests of Candidate Processes," The Review of Economics and Statistics, MIT Press, vol. 70(4), pages 638-647, November.
  • Handle: RePEc:tpr:restat:v:70:y:1988:i:4:p:638-47
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    Cited by:

    1. Osler, Carol & Savaser, Tanseli, 2011. "Extreme returns: The case of currencies," Journal of Banking & Finance, Elsevier, vol. 35(11), pages 2868-2880, November.
    2. Keng‐Hsin Lo & Kehluh Wang & Ming‐Feng Hsu, 2008. "Pricing European Asian options with skewness and kurtosis in the underlying distribution," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 28(6), pages 598-616, June.
    3. Rombouts Jeroen V. K. & Bouaddi Mohammed, 2009. "Mixed Exponential Power Asymmetric Conditional Heteroskedasticity," Studies in Nonlinear Dynamics & Econometrics, De Gruyter, vol. 13(3), pages 1-32, May.
    4. Engel, Charles & Hakkio, Craig S, 1996. "The Distribution of Exchange Rates in the EMS," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 1(1), pages 55-67, January.
    5. Rombouts, Jeroen V.K. & Stentoft, Lars, 2014. "Bayesian option pricing using mixed normal heteroskedasticity models," Computational Statistics & Data Analysis, Elsevier, vol. 76(C), pages 588-605.
    6. van Norden, Simon, 1996. "Regime Switching as a Test for Exchange Rate Bubbles," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 11(3), pages 219-251, May-June.
    7. Markus Haas, 2004. "Mixed Normal Conditional Heteroskedasticity," Journal of Financial Econometrics, Society for Financial Econometrics, vol. 2(2), pages 211-250.
    8. Haas, Markus & Krause, Jochen & Paolella, Marc S. & Steude, Sven C., 2013. "Time-varying mixture GARCH models and asymmetric volatility," The North American Journal of Economics and Finance, Elsevier, vol. 26(C), pages 602-623.
    9. Lin, Bing-Huei & Yeh, Shih-Kuo, 2001. "Estimation for factor models of term structure of interest rates with jumps: the case of the Taiwanese government bond market," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 11(2), pages 167-197, June.
    10. Raymond Chiang & John Okunev & Mark Tippett, 1997. "Stochastic interest rates, transaction costs, and immunizing foreign currency risk," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 17(5), pages 579-598, August.
    11. Zhiguang Wang & Prasad Bidarkota, 2012. "Risk premia in forward foreign exchange rates: a comparison of signal extraction and regression methods," Empirical Economics, Springer, vol. 42(1), pages 21-51, February.
    12. Mercik, Szymon & Weron, Rafal, 2002. "Origins of scaling in FX markets," MPRA Paper 2294, University Library of Munich, Germany.
    13. Chen, Shouquan & Huang, Jianwen, 2014. "Rates of convergence of extreme for asymmetric normal distribution," Statistics & Probability Letters, Elsevier, vol. 84(C), pages 158-168.
    14. St. Pierre, Eileen F., 1998. "Estimating EGARCH-M models: Science or art?," The Quarterly Review of Economics and Finance, Elsevier, vol. 38(2), pages 167-180.
    15. Kiani, Khurshid M., 2013. "Can signal extraction help predict risk premia in foreign exchange rates," Economic Modelling, Elsevier, vol. 33(C), pages 926-939.
    16. Dumas, Bernard & Peter Jennergren, L. & Naslund, Bertil, 1995. "Realignment risk and currency option pricing in target zones," European Economic Review, Elsevier, vol. 39(8), pages 1523-1544, October.
    17. Kaehler, Jürgen, 1993. "On the modelling of speculative prices by stable Paretian distributions and regularly varying tails," ZEW Discussion Papers 93-25, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research.
    18. Osler, Carol L., 2005. "Stop-loss orders and price cascades in currency markets," Journal of International Money and Finance, Elsevier, vol. 24(2), pages 219-241, March.
    19. Batten, Jonathan & Ellis, Craig & Fetherston, Thomas A., 2000. "Are long-term return anomalies illusions?: Evidence from the spot Yen," Japan and the World Economy, Elsevier, vol. 12(4), pages 337-349, December.
    20. Batten, Jonathan A. & Ellis, Craig A., 2005. "Paramater estimation bias and volatility scaling in Black-Scholes option prices," International Review of Financial Analysis, Elsevier, vol. 14(2), pages 165-176.
    21. Meade, Nigel, 2010. "Oil prices -- Brownian motion or mean reversion? A study using a one year ahead density forecast criterion," Energy Economics, Elsevier, vol. 32(6), pages 1485-1498, November.
    22. Marian Micu, 2005. "Extracting expectations from currency option prices: a comparison of methods," Computing in Economics and Finance 2005 226, Society for Computational Economics.
    23. Lim, Terence & Lo, Andrew W. & Merton, Robert C. & Scholes, Myron S., 2006. "The Derivatives Sourcebook," Foundations and Trends(R) in Finance, now publishers, vol. 1(5–6), pages 365-572, April.

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