Predictive Power of Exchange Rate Determination Models

Research is conducted to establish the predictive powers of exchange rate determination models frequently used in the finance sector by traders and practitioners worldwide. The models are tested for co-integration of its explanatory variables with the exchange rate. In-sample forecasts are generated and forecasting accuracy evaluated by statistics taking into account magnitude of forecasting errors and the forecast’s directional accuracy. Measures of profitability based on trading on the basis of the generated forecasts are evaluated using standard risk and return statistics, including evaluation of downside risk. Among models estimated are the Restricted Purchasing Power Parity, Unrestricted Purchasing Power Parity, Uncovered Interest Parity and the Monetary Model. Models are estimated using real world data (10-years).

This book attempts to answer the age-old question of whether econometric models of exchange rate are value adding for traders in their search for trading profits.