Kiel Working Papers, Kiel Institute for World Economics
No 1656:
Adaptive Forecasting of Exchange Rates with Panel Data
Leonardo Morales-Arias and Alexander Dross
Abstract: This article investigates the statistical and economic
implications of adaptive forecasting of exchange rates with panel data and
alternative predictors. The candidate exchange rate predictors are drawn
from (i) macroeconomic ‘fundamentals’, (ii) return/volatility of asset
markets and (iii) cyclical and confidence indices. Exchange rate forecasts
at various horizons are obtained from each of the potential predictors
using single market, mean group and pooled estimates by means of rolling
window and recursive forecasting schemes. The capabilities of single
predictors and of adaptive techniques for combining the generated exchange
rate forecasts are subsequently examined by means of statistical and
economic performance measures. The forward premium and a predictor based on
a Taylor rule yield the most promising forecasting results out of the macro
‘fundamentals’ considered. For recursive forecasting, confidence indices
and volatility in-mean yield more accurate forecasts than most of the macro
‘fundamentals’. Adaptive forecast combinations techniques improve
forecasting precision and lead to better market timing than most single
predictors at higher horizons
Keywords: Exchange rate forecasting, panel data, forecast combinations, market timing; (follow links to similar papers)
JEL-Codes: C20,; F31,; G12; (follow links to similar papers)
48 pages, October 2010
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