The Predictive Information Content of External Imbalances for Exchange Rate Returns: How Much is it Worth?

56 Pages Posted: 22 Nov 2010

See all articles by Pasquale Della Corte

Pasquale Della Corte

Imperial College Business School; Centre for Economic Policy Research (CEPR)

Lucio Sarno

City University London - Sir John Cass Business School; Centre for Economic Policy Research (CEPR)

Giulia Sestieri

Banque de France

Multiple version iconThere are 3 versions of this paper

Date Written: October 2010

Abstract

This paper examines the exchange rate predictability stemming from the equilibrium model of international financial adjustment developed by Gourinchas and Rey (2007). Using predictive variables that measure cyclical external imbalances for country pairs, we assess the ability of this model to forecast out-of-sample four major US dollar exchange rates using various economic criteria of model evaluation. The analysis shows that the model provides economic value to a risk-averse investor, delivering substantial utility gains when switching from a portfolio strategy based on the random walk benchmark to one that conditions on cyclical external imbalances.

Keywords: foreign exchange, fundamentals, global imbalances, predictability

JEL Classification: F31, F37, G15

Suggested Citation

Della Corte, Pasquale and Sarno, Lucio and Sestieri, Giulia, The Predictive Information Content of External Imbalances for Exchange Rate Returns: How Much is it Worth? (October 2010). CEPR Discussion Paper No. DP8045. Available at SSRN: https://ssrn.com/abstract=1711058

Pasquale Della Corte (Contact Author)

Imperial College Business School ( email )

South Kensington Campus
Exhibition Road
London, SW7 2AZ
United Kingdom
+44(0)20 759 49331 (Phone)

HOME PAGE: http://sites.google.com/view/pasqualedellacorte

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Lucio Sarno

City University London - Sir John Cass Business School ( email )

106 Bunhill Row
London, EC1Y 8TZ
United Kingdom

Centre for Economic Policy Research (CEPR)

London
United Kingdom

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