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Chartist Prediction in the Foreign Exchange Market. Evidence from the Daily Dollar/DM Exchange Rate

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  • Ralf Ahrens

    (Center for Financial Studies)

  • Stefan Reitz

    (Justus-Liebig-University Giessen)

Abstract

In this study a regime switching approach is applied to estimate the chartist and fundamentalist (c&f) exchange rate model originally proposed by Frankel and Froot (1986). The empirical results suggest that this model does successfully explain daily DM/Dollar forward exchange rate dynamics from 1982 to 1998. Moreover, our findings turned out to be relative robust by estimating the model in subsamples. A particular focus of this study is on testing the c&f model against alternative regime switching specifications applying likelihood ratio tests. The results are striking. Nested atheoretical models like the popular segmented trends model suggested by Engel and Hamilton (1990) are rejected in favour of the c&f model. Finally, the c&f regime switching model seems to describe the data much better than a competing regime switching GARCH(1,1) model.

Suggested Citation

  • Ralf Ahrens & Stefan Reitz, 2000. "Chartist Prediction in the Foreign Exchange Market. Evidence from the Daily Dollar/DM Exchange Rate," Econometric Society World Congress 2000 Contributed Papers 1683, Econometric Society.
  • Handle: RePEc:ecm:wc2000:1683
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    1. Lewis, Karen K., 1995. "Puzzles in international financial markets," Handbook of International Economics,in: G. M. Grossman & K. Rogoff (ed.), Handbook of International Economics, edition 1, volume 3, chapter 37, pages 1913-1971 Elsevier.
    2. Eichengreen, Barry, 1988. "Real exchange rate behavior under alternative international monetary regimes : Interwar evidence," European Economic Review, Elsevier, vol. 32(2-3), pages 363-371, March.
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    5. Frankel, Jeffrey A & Froot, Kenneth A, 1986. "Understanding the U.S. Dollar in the Eighties: The Expectations of Chartists and Fundamentalists," The Economic Record, The Economic Society of Australia, vol. 0(0), pages 24-38, Supplemen.
    6. Vigfusson, Robert, 1997. "Switching between Chartists and Fundamentalists: A Markov Regime-Switching Approach," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 2(4), pages 291-305, October.
    7. Meese, Richard, 1990. "Currency Fluctuations in the Post-Bretton Woods Era," Journal of Economic Perspectives, American Economic Association, vol. 4(1), pages 117-134, Winter.
    8. Dominguez, Kathryn M., 1986. "Are foreign exchange forecasts rational? : New evidence from survey data," Economics Letters, Elsevier, vol. 21(3), pages 277-281.
    9. Gray, Stephen F., 1996. "Modeling the conditional distribution of interest rates as a regime-switching process," Journal of Financial Economics, Elsevier, vol. 42(1), pages 27-62, September.
    10. Baxter, Marianne & Stockman, Alan C., 1989. "Business cycles and the exchange-rate regime : Some international evidence," Journal of Monetary Economics, Elsevier, vol. 23(3), pages 377-400, May.
    11. Sarno,Lucio & Taylor,Mark P., 2003. "The Economics of Exchange Rates," Cambridge Books, Cambridge University Press, number 9780521485845.
    12. De Long, J Bradford & Andrei Shleifer & Lawrence H. Summers & Robert J. Waldmann, 1990. "Noise Trader Risk in Financial Markets," Journal of Political Economy, University of Chicago Press, vol. 98(4), pages 703-738, August.
    13. Hans Dewachter, 1997. "Sign predictions of exchange rate changes: Charts as proxies for Bayesian inferences," Review of World Economics (Weltwirtschaftliches Archiv), Springer;Institut für Weltwirtschaft (Kiel Institute for the World Economy), vol. 133(1), pages 39-55, March.
    14. Engel, Charles & Hamilton, James D, 1990. "Long Swings in the Dollar: Are They in the Data and Do Markets Know It?," American Economic Review, American Economic Association, vol. 80(4), pages 689-713, September.
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