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FORECASTING EXCHANGE RATE RETURN BASED ON ECONOMIC VARIABLES

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Author(s): Mohsen Mehrara | Ali Reza Oryoie

Journal: International Journal of Economics and Research
ISSN 2229-6158

Volume: 02;
Issue: 05;
Start page: 119;
Date: 2011;
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Keywords: : Exchange Rate | Forecasting | Economic Variables | predictability

ABSTRACT
Many studies have proven that exchange rate return is not predictable using random walk tests. In other words, the return is not predictable based on historical returns. But, in this article, we try to forecast the return using publicly available information, and test whether or not it is predictable using a nonparametric test of predictive performance which has been proposed by Pesaran and Timmermann in 1992. For forecasting the return, we used a recursive estimation method in which the parameter estimates were updated recursively in light of new weekly observations, and its regressors were chosen recursively based on the R2 criterion regarding the statistical significance of all coefficients. The results indicated that the returns of weekly exchange rates of the Canadian dollar, the euro, and the British pound against the US dollar are predictable. Moreover, it was assessed which economic variables are most important in forecasting the returns by counting the number of times that each variable was inserted into the forecasting model
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