Common stochastic trends between forward and spot exchange rates

K. B. Luintel, K. Paudyal

Research output: Contribution to journalArticle

22 Citations (Scopus)

Abstract

The common trend analyses between the forward rate (Ft) and the corresponding future spot rate of the same currency (St+1) have raised several issues: notably, the sensitivity of the cointegrating relation to a constant term and lag lengths and the non-stationarity of the risk premium. This paper addresses these issues more rigorously using the daily exchange rate of the pound Sterling vis-à-vis five major currencies viz. the Canadian dollar, French franc, German mark, Japanese yen, and US dollar. The appropriate deterministic term in the cointegrating space is identified through empirical tests. A robust cointegrating relation is found between Ft and St+1; however, the hypothesis of unbiasedness of forward rate could not be sustained. An alternative measure of risk premium is suggested and its stationarity is confirmed.

LanguageEnglish
Pages279-297
Number of pages19
JournalJournal of International Money and Finance
Volume17
Issue number2
DOIs
Publication statusPublished - 6 Apr 1998

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Common stochastic trends
Risk premium
Exchange rates
Forward rates
Currency
Common trends
Nonstationarity
Unbiasedness
Empirical test
Stationarity
Measure of risk
Lag

Keywords

  • cointegration
  • F31
  • forward rate
  • G14
  • risk premium
  • spot rate

Cite this

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Common stochastic trends between forward and spot exchange rates. / Luintel, K. B.; Paudyal, K.

In: Journal of International Money and Finance, Vol. 17, No. 2, 06.04.1998, p. 279-297.

Research output: Contribution to journalArticle

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