Foreign exchange risk premia: from traditional to state-space analyses

Nakmai, Siwat (2016): Foreign exchange risk premia: from traditional to state-space analyses.

Abstract

This paper examines foreign exchange risk premia from simple univariate regressions to the state-space method. The adjusted traditional regressions properly figure out the existence and time-evolving property of the risk premia. Successively, the state-space estimations overall are quite rationally competent in examining the essence of time variability of the unobservable risk premia. To be more precise, the coefficients on the lagged estimated time-series are significant and the disturbance combined from the observation and transition equations in the state-space system, rational and premium errors, respectively, is statistically white noise. Such the two residuals are discovered to move oppositely with their covariance approaching zero suggested by the empirics. Besides, foreign exchange risk premia are projected and found significantly stationary at level and relatively volatile throughout time with some clustering. This volatility is however not quite dominant in the deviations of forward prediction errors.

• Item Type: MPRA Paper
• Language: English
• Keywords: foreign exchange risk premia, univariate regressions, state-space modeling, Kalman filter
• Subjects: C - Mathematical and Quantitative Methods > C2 - Single Equation Models ; Single Variables > C20 - General; C - Mathematical and Quantitative Methods > C3 - Multiple or Simultaneous Equation Models ; Multiple Variables > C32 - Time-Series Models ; Dynamic Quantile Regressions ; Dynamic Treatment Effect Models ; Diffusion Processes ; State Space Models; F - International Economics > F3 - International Finance > F31 - Foreign Exchange

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