Risk Premia in Forward Foreign Exchange Markets: A Comparison of Signal Extraction and Regression Methods
We investigate time varying risk premia in forward dollar/pound monthly exchange rates over the last two decades. We study this issue using a signal plus noise model and separately using regression techniques. Our models account for time varying volatility and non-normalities in the observed series. Our signal plus noise model fails to isolate a statistically significant risk premium component whereas our regression model does. We attribute the discrepancy in the results from the two methods to the low power of the signal plus noise model in discriminating between a time varying risk premium component and a serially uncorrelated spot exchange rate expectational error. An important reason for the low power of the signal plus noise model is its failure to use information on current period forward rates in extracting the risk premium.
|Date of creation:||Jan 2005|
|Date of revision:|
|Contact details of provider:|| Postal: |
Phone: (305) 348-2316
Fax: (305) 348-1524
Web page: http://casgroup.fiu.edu/Economics/
More information through EDIRC
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Hai, Weike & Mark, Nelson C & Wu, Yangru, 1997. "Understanding Spot and Forward Exchange Rate Regressions," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 12(6), pages 715-34, Nov.-Dec..
- Prasad V. Bidarkota & J. Huston McCulloch, 1998.
"Optimal univariate inflation forecasting with symmetric stable shocks,"
Journal of Applied Econometrics,
John Wiley & Sons, Ltd., vol. 13(6), pages 659-670.
- Prasad V. Bidarkota & J. Huston McCulloch, . "Optimal Univariate Inflation Forecasting with Symmetric Stable Shocks," Computing in Economics and Finance 1997 116, Society for Computational Economics.
- Diebold & Lopez, .
"Modeling Volatility Dynamics,"
_062, University of Pennsylvania.
- Froot, Kenneth A. & Frankel, Jeffrey A., 1988.
"Forward Discount Bias: Is It an Exchange Risk Premium?,"
Department of Economics, Working Paper Series
qt5w65g4zg, Department of Economics, Institute for Business and Economic Research, UC Berkeley.
- Froot, Kenneth A & Frankel, Jeffrey A, 1989. "Forward Discount Bias: Is It an Exchange Risk Premium?," The Quarterly Journal of Economics, MIT Press, vol. 104(1), pages 139-61, February.
- Kenneth A. Froot and Jeffrey A. Frankel., 1988. "Forward Discount Bias: Is It an Exchange Risk Premium?," Economics Working Papers 8874, University of California at Berkeley.
- Ram Bhar & Carl Chiarella & Toan Pham, 2000. "Modeling the Currency Forward Risk Premium: Theory and Evidence," Research Paper Series 41, Quantitative Finance Research Centre, University of Technology, Sydney.
- Lumsdaine, Robin L, 1996. "Consistency and Asymptotic Normality of the Quasi-maximum Likelihood Estimator in IGARCH(1,1) and Covariance Stationary GARCH(1,1) Models," Econometrica, Econometric Society, vol. 64(3), pages 575-96, May.
- Charles Engel, 1995.
"The Forward Discount Anomaly and the Risk Premium: A Survey of Recent Evidence,"
NBER Working Papers
5312, National Bureau of Economic Research, Inc.
- Engel, Charles, 1996. "The forward discount anomaly and the risk premium: A survey of recent evidence," Journal of Empirical Finance, Elsevier, vol. 3(2), pages 123-192, June.
- Fama, Eugene F., 1984. "Forward and spot exchange rates," Journal of Monetary Economics, Elsevier, vol. 14(3), pages 319-338, November.
- Boothe, Paul & Glassman, Debra, 1987. "The statistical distribution of exchange rates: Empirical evidence and economic implications," Journal of International Economics, Elsevier, vol. 22(3-4), pages 297-319, May.
- Hansen, Lars Peter & Hodrick, Robert J, 1980. "Forward Exchange Rates as Optimal Predictors of Future Spot Rates: An Econometric Analysis," Journal of Political Economy, University of Chicago Press, vol. 88(5), pages 829-53, October.
When requesting a correction, please mention this item's handle: RePEc:fiu:wpaper:0501. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Sheng Guo)
If references are entirely missing, you can add them using this form.