Foreign exchange market

About: Foreign exchange market is a research topic. Over the lifetime, 6661 publications have been published within this topic receiving 153384 citations. The topic is also known as: forex & FX.

Beating the Foreign Exchange Market

Abstract: Filter rule profits found in foreign exchange markets in the early days of the current managed float persist in later periods, as shown by statistical tests developed and implemented here. The test is consistent with, but independent of, a wide variety of asset pricing models. The profits found cannot be explained by risk if risk premia are constant over time. Inclusion of the home-foreign interest rate differential in computing profits has little effect on the comparison of filter returns to those of buy-and-hold. IN THE EARLY YEARS of the generalized managed floating that began in March 1973, filter rule profits in excess of buy-and-hold were found for many countries (Logue, Sweeney and Willett [18], Dooley and Shafer [6], Cornell and Dietrich [5]). It was unclear, however, whether such profits indicated inefficiencies. First, it was not clear that risk was adequately handled in such tests, and often risk was ignored. Second, there was no evidence such profits would be available postsample. And third, there was no statistical test of the significance of these profits. This paper uses the logic of risk/return tradeoffs to analyze the role of risk in such tests and illustrates the logic in a discussion using the Sharpe-Lintner Capital Asset Pricing Model (CAPM), although a Breeden consumption-based CAPM, a Merton intertemporal CAPM, or an Arbitrage Pricing Model (APM) could easily be used. The paper develops a test of statistical significance appropriate to foreign exchange markets (Section I), analyzing the rate of return on foreign exchange speculation less the foreign-domestic interest rate differential. The test explicitly assumes that risk premia are constant over the sample. The excess rates of return observable in using filters in going from a risk-free dollar asset to a risk-free Deutsche Mark (DM) asset persist into the 1980's (Section II), and this is true even when taking account of transactions costs. It turns out that these results for the $/DM case do not depend very much on the interestrate differential, but primarily on exchange rate behavior. This is useful to know because it is often quite difficult to find matching, interest-rate data of high quality. For a sample of nine other currencies, using only exchange rates, Section III shows that the excess returns made in the first 610 days of the float persist in the next 1,220 days, into the 1980's. (Dooley and Shafer [7] find similar persistence in experiments that do not use buy-and-hold and have no significance tests.) When filter rule profits have been found in spot exchange markets, it has often been argued that the profits are due to risk. This paper uses the CAPM to analyze rates of return both to buy-and-hold and to filter strategies. It turns out that the * Claremont McKenna College and Claremont Graduate School. Arthur D. Warga, Douglas Joines, and Thomas D. Willett offered helpful comments, and Ning-Ning Koo provided research assistance.

Chartists, Fundamentalists, and Trading in the Foreign Exchange Market

Abstract: Annual Research Conference--II: Chartists, Fundamentalists, and Trading in the Foreign Exchange Market The overshooting theory of exchange rates seems ideal for explaining some important aspects of the movement of the dollar in recent years. From 1981-4, for example, when real interest rates in the United States rose above those of her trading partners (presumably because of shifts in the monetary/fiscal policy mix), the dollar appreciated strongly. This episode supported the overshooting theory: the higher rates of return had made U.S. assets more attractive to international investors, which is what caused the dollar to appreciate; the appreciation continued until the dollar's value was so far above long-run equilibrium that expectations of future depreciation were enough to offset the higher nominal interest rate in the minds of international investors. (Figure 1 shows the correlation of the real interest differential with the real value of the dollar, since exchange rates began to float in 1973.) Bubble Episodes At times, however, the path of the dollar has departed from what would be expected on the basis of macro-economic fundamentals. The most dramatic example was the period from June 1984 to February 1985. The dollar appreciated 20 percent over this interval, even though the real interest differential already had begun to fall. The other observable factors that are suggested in standard macroeconomic models--money growth rates, real growth rates, the trade deficit--also were moving in the wrong direction to explain the dollar's rise at this time. Of course, standard observable macroeconomic variables cannot explain, much less predict, most short-term changes in the exchange rate. But what does this mean? It may be that the unexplained short-term changes are rational revisions in the market's perception of the long-run equilibrium exchange rate. These revisions are caused by shifts in "tastes and technologies," even if the shifts are not observable to macroeconomists as standard measurable fundamentals. A major difficulty with this interpretation, though, is that it is hard to believe that the world demand for U.S. goods (or U.S. productivity) could have risen enough to increase the equilibrium real exchange rate by more than 20 percent over a nine-month period, let alone that such a shift then would be reversed over an equally short period. The second view is that the appreciation may have been an example of a speculative bubble: that it was unrelated to fundamentals, but rather was the outcome of self-confirming market expectations. In other words, the dollar "overshot the overshooting equilibrium." This also may have been the nature of the dollar appreciation of 1988-9. Ken Froot and I have suggested that such episodes may be examples of speculative bubbles, and that they may be described best by models in which market participants are not necessarily assumed to agree on the correct way to forecast the exchange rate.(1) Trading Volume in the Foreign Exchange Market Supporting the idea that market participants differ widely in their forecasts is the tremendous volume of foreign exchange trading. If participants all agree on their forecasts, why do they trade so much? In April 1989, foreign exchange trading (adjusted for double-counting) in the United States totaled $128.9 billion a day, an increase of 120 percent from March 1986. Simultaneous counts in London and Tokyo reported $187 billion and $115 billion a day, respectively. Thus the worldwide total is over $430 billion of foreign exchange trading a day. Interestingly, the banks in the New York Fed Census reported that only 4.9 percent of their trading was with a nonfinancial firm; for the nonbanks, only 4.4 percent of their trading was with a nonfinancial firm. In other words, 95 percent of trading takes place among banks and other financial firms, rather than with customers (importers and exporters). …

Multinational Business Finance

Abstract: Part I: Global Environment Chapter 1: Globalization and the Multinational Enterprise Chapter 2: Financial Goals & Governance Chapter 3: The International Monetary System Chapter 4: The Balance of Payments Chapter 5: Current Multinational Financial Challenges: Crisis Part II: Foreign Exchange Theory and Markets Chapter 6: The Foreign Exchange Market Chapter 7: International Parity Conditions Appendix: Algebraic Primer to International Parity Conditions Chapter 8: Foreign Currency Derivatives Appendix: Currency Option Pricing Theory Chapter 9: Interest Rate and Cross Currency Swaps Chapter 10: Foreign Exchange Rate Determination & Forecasting Part III: Foreign Exchange Exposure Chapter 11: Transaction Exposure Appendix: Complex Options Chapter 12: Operating Exposure Chapter 13: Translation Exposure Part IV: Financing the Global Firm Chapter 14: The Global Cost and Availability of Capital Chapter 15: Sourcing Equity Globally Chapter 16: Sourcing Debt Globally Part V: Foreign Investment Decisions Chapter 17: International Portfolio Theory & Investment Chapter 18: Foreign Direct Investment Theory & Strategy Chapter 19: Multinational Capital Budgeting Part VI: Managing Multinational Operations Chapter 20: Multinational Tax Management Chapter 21: Working Capital Management Chapter 22: International Trade Finance