The out-of-sample success of term structure models as exchange rate predictors: a step beyond
Clarida, Richard H., Sarno, Lucio, Taylor, Mark P. and Valente, Giorgio (2002) The out-of-sample success of term structure models as exchange rate predictors: a step beyond. Discussion Paper. London: Centre for Economic Policy Research (Great Britain). Discussion paper (Centre for Economic Policy Research (Great Britain)) (No.328).
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A large literature suggests that standard exchange rate models cannot outperform a random walk forecast and that the forward rate is not an optimal predictor of the spot rate. There is evidence, however, that the term structure of forward premia contains valuable information for forecasting future spot exchange rates and that exchange rate dynamics display non-linearities. This Paper proposes a term-structure forecasting model of exchange rates based on a regime-switching vector equilibrium correction model which is novel in this context. Our model significantly outperforms both a random walk and, to a lesser extent, a linear term-structure vector equilibrium correction model for four major dollar rates across a range of horizons.
|Item Type:||Working or Discussion Paper (Discussion Paper)|
|Subjects:||H Social Sciences > HB Economic Theory|
|Divisions:||Faculty of Social Sciences > Warwick Business School
Faculty of Social Sciences > Economics
|Library of Congress Subject Headings (LCSH):||Economic forecasting, Foreign exchange rates, Markov processes, Nonlinear theories|
|Series Name:||Discussion paper (Centre for Economic Policy Research (Great Britain))|
|Publisher:||Centre for Economic Policy Research (Great Britain)|
|Place of Publication:||London|
|Official Date:||March 2002|
|Number of Pages:||40|
|Status:||Not Peer Reviewed|
|Access rights to Published version:||Open Access|
|Adapted As:||Clarida, R.H. et al. (2003). The out-of-sample success of term structure models as exchange rate predictors: a step beyond. Journal of International Economics, 60(1), pp. 61-83.|
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