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Knowing A Bit but Not Too Much: Incomplete Directional models and their use in Forecasting and Hedging

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Listed:
  • Bowden, Roger
  • Zhu, Jennifer
  • Cho, Jin Seo

Abstract

Directional calls are often more successful than precise value prediction, particularly at certain times, when underlying fundamentals suggest a breakout from the stable range. We adapt the categorical directional framework implicit in binomial or trinominal step processes to establish nonhomogeneous multinomial directional probabilities over coarser time intervales and show how such frameworks can be used for forecasting the hedging, including dynamic persistence. Problems of signal compression and outcome definition can be addressed using methods analogous to neuronal nets and fuzzy membership functions. the methods are applied to derive forecasting and conditional hedge procedures for foreign exchange exposures.

Suggested Citation

  • Bowden, Roger & Zhu, Jennifer & Cho, Jin Seo, 2026. "Knowing A Bit but Not Too Much: Incomplete Directional models and their use in Forecasting and Hedging," Working Paper Series 33487, Victoria University of Wellington, School of Economics and Finance.
    • Handle: RePEc:vuw:vuwecf:33487
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    File URL: https://ir.wgtn.ac.nz/handle/123456789/33487
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    References listed on IDEAS

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    3. Leitch, Gordon & Tanner, J Ernest, 1991. "Economic Forecast Evaluation: Profits versus the Conventional Error Measures," American Economic Review, American Economic Association, vol. 81(3), pages 580-590, June.
    4. Roger Bowden, 2004. "McHouse prices, capital hoovering, and real exchange rate exposures," New Zealand Economic Papers, Taylor & Francis Journals, vol. 38(1), pages 119-139.
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