Can Markov Switching Models Predict Excess Foreign Exchange Returns?

FRB of St. Louis Working Paper No. 2001-021F

30 Pages Posted: 13 Jan 2005

See all articles by Michael Dueker

Michael Dueker

Federal Reserve Banks - Federal Reserve Bank of St. Louis

Christopher J. Neely

Federal Reserve Bank of St. Louis - Research Division

Date Written: March 2006

Abstract

This paper merges the literature on technical trading rules with the literature on Markov switching to develop economically useful trading rules. The Markov models' out-of sample, excess returns modestly exceed those of standard technical rules and are profitable over the most recent subsample. A portfolio of Markov and standard technical rules outperforms either set individually, on a risk-adjusted basis. The Markov rules' high excess returns contrast with mixed performance on statistical tests of forecast accuracy. There is no clear source for the trends, but permitting the mean to depend on higher moments of the exchange rate distribution modestly increases returns.

Keywords: Technical trading rules, Markov switching, exchange rates, excess returns

JEL Classification: F31, G15

Suggested Citation

Dueker, Michael and Neely, Christopher J., Can Markov Switching Models Predict Excess Foreign Exchange Returns? (March 2006). FRB of St. Louis Working Paper No. 2001-021F, Available at SSRN: https://ssrn.com/abstract=648227 or http://dx.doi.org/10.2139/ssrn.648227

Michael Dueker (Contact Author)

Federal Reserve Banks - Federal Reserve Bank of St. Louis ( email )

411 Locust St
Saint Louis, MO 63011
United States

Christopher J. Neely

Federal Reserve Bank of St. Louis - Research Division ( email )

411 Locust St
Saint Louis, MO 63011
United States
314-444-8568 (Phone)
314-444-8731 (Fax)

HOME PAGE: http://www.stls.frb.org/research/econ/cneely/

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
475
Abstract Views
2,269
rank
75,995
PlumX Metrics