Exchange Rate Predictability and Dynamic Bayesian Learning

58 Pages Posted: 15 Nov 2018

See all articles by Joscha Beckmann

Joscha Beckmann

University of Duisburg-Essen - Department of Economics and Business Administration

Gary Koop

University of Strathclyde, Glasgow - Strathclyde Business School - Department of Economics

Dimitris Korobilis

University of Essex - Essex Business School

Rainer Schüssler

University of Rostock - Department of Economics

Date Written: October 23, 2018

Abstract

This paper considers how an investor in the foreign exchange market can exploit predictive information by means of flexible Bayesian inference. Using a benchmark vector autoregressive model, the investor is able to revise each period past predictive mistakes and learn about important data features such as parameter instability and model switching. The proposed methodology is specified in order to reflect a wide array of established empirical and theoretical patterns of exchange rates. In a thorough investigation of monthly exchange rate predictability for ten countries, we find that an investor using the proposed flexible methodology for dynamic asset allocation achieves significant economic gains relative to benchmark strategies. In particular, we find strong evidence for sparsity, fast model switching and exploiting the exchange rate cross-section.

Keywords: Exchange Rates, Bayesian Vector Autoregression, Forecasting, Dynamic Portfolio Allocation, Economic Fundamentals

JEL Classification: C11, D83, F31, G12, G15, G17

Suggested Citation

Beckmann, Joscha and Koop, Gary and Korobilis, Dimitris and Schüssler, Rainer, Exchange Rate Predictability and Dynamic Bayesian Learning (October 23, 2018). Available at SSRN: https://ssrn.com/abstract=3271970 or http://dx.doi.org/10.2139/ssrn.3271970

Joscha Beckmann

University of Duisburg-Essen - Department of Economics and Business Administration ( email )

Universitätsstr. 9
Essen, 45141
Germany

Gary Koop (Contact Author)

University of Strathclyde, Glasgow - Strathclyde Business School - Department of Economics ( email )

100 Cathedral Street
Glasgow G4 0LN
United Kingdom

Dimitris Korobilis

University of Essex - Essex Business School ( email )

Wivenhoe Park
Colchester, CO4 3SQ
United Kingdom

HOME PAGE: http://https://sites.google.com/site/dimitriskorobilis/

Rainer Schüssler

University of Rostock - Department of Economics ( email )

Ulmenstr. 69
Rostock, 18057
Germany

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