Information Spillovers and Predictable Currency Returns: An Analysis via Machine Learning

44 Pages Posted: 3 Feb 2019

See all articles by Yuecheng Jia

Yuecheng Jia

Central University of Finance and Economics (CUFE) - Chinese Academy of Finance and Development

Yangru Wu

Rutgers University, Newark - School of Business - Department of Finance & Economics

Shu Yan

Oklahoma State University - Stillwater - Department of Finance

Date Written: January 4, 2019

Abstract

This paper employs the post — Least Absolute Shrinkage and Selection Operator (post — LASSO) to make rolling 1-month--ahead currency excess return forecasts using all other currencies' lagged forward discounts as candidate predictors. The trading strategy of buying (selling) quintile currency portfolios of the high (low) post — LASSO forecasts yields a monthly excess return of 1.05% for the 48-currency sample. The results do not change even after controlling for various predictors. The return predictive power of the post — LASSO comes from two sources. First, it identifies the origin currencies of information spillovers in the FX market, which are sparse and time-varying. Second, it incorporates cross-sectional variations in currencies' predictive relations with the origin currencies.

Keywords: Foreign Exchange, Currency Return, Post — LASSO, Information Spillovers

JEL Classification: G12, G14, G15, F31, F37

Suggested Citation

Jia, Yuecheng and Wu, Yangru and Yan, Shu, Information Spillovers and Predictable Currency Returns: An Analysis via Machine Learning (January 4, 2019). Available at SSRN: https://ssrn.com/abstract=3320199 or http://dx.doi.org/10.2139/ssrn.3320199

Yuecheng Jia (Contact Author)

Central University of Finance and Economics (CUFE) - Chinese Academy of Finance and Development ( email )

39 South College Road
Beijing
China

Yangru Wu

Rutgers University, Newark - School of Business - Department of Finance & Economics ( email )

1 Washington Park
Newark, NJ 07102
United States
973-353-1146 (Phone)
973-353-1006 (Fax)

HOME PAGE: http://andromeda.rutgers.edu/~yangruwu

Shu Yan

Oklahoma State University - Stillwater - Department of Finance ( email )

Spears School of Business
Stillwater, OK 74078-4011
United States

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