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Modeling and forecasting foreign exchange daily closing prices with normal inverse Gaussian

Teneng, Dean (2012): Modeling and forecasting foreign exchange daily closing prices with normal inverse Gaussian.

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Abstract

We fit the normal inverse Gaussian(NIG) distribution to foreign exchange closing prices using the open software package R and select best models by Kaarik and Umbleja (2011) proposed strategy. We observe that daily closing prices(12/04/2008 - 07/08/2012) of CHF/JPY, AUD/JPY, GBP/JPY, NZD/USD, QAR/CHF, QAR/EUR, SAR/CHF, SAR/EUR, TND/CHF AND TND/EUR are excellent fits while EGP/EUR and EUR/GBP are good fits with a Kolmogorov-Smirnov test p-value of 0.062 and 0.08 respectively. It was impossible to estimate normal inverse Gaussian parameters (by maximum likelihood; computational problem) for JPY/CHF but CHF/JPY was an excellent fit. Thus, while the stochastic properties of an exchange rate can be completely modeled with a probability distribution in one direction, it may be impossible the otherway around. We also demonstrate that foreign exchange closing prices can be forecasted with the normal inverse Gaussian (NIG) Lévy process, both in cases where the daily closing prices can and cannot be modeled by NIG distribution.

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