Short-term determinants of bilateral exchange rates: A decomposition model for the Swiss franc

Fabian Fink, Lukas Frei and Oliver Gloede

No 2020-21, Working Papers from Swiss National Bank

Abstract: This paper develops an FX factor model to decompose short-term bilateral exchange rate dynamics into different global factors and local uniqueness. We apply the model to the Swiss franc exchange rates against the US dollar (USDCHF) and the euro (EURCHF) between 2006 and 2018 and decompose daily dynamics into three global factors: risk, US dollar, and euro. The model captures daily dynamics well, explaining approximately 73% of the variation in USDCHF and 37% of the variation in EURCHF. The risk factor contributes the most to Swiss franc dynamics, especially in times of a worsening risk environment, highlighting the role of the Swiss franc as a safe-haven currency. Global FX factors had been almost completely reflected in USDCHF dynamics before the euro area debt crisis, but once that crisis began, they also became important for EURCHF. Furthermore, momentum is present in daily Swiss franc returns, especially before the introduction of the EURCHF minimum exchange rate.

Keywords: Factor model; variance decomposition; safe haven; carry trade; momentum (search for similar items in EconPapers)
JEL-codes: C38 F31 G15 (search for similar items in EconPapers)
Pages: 26 pages
Date: 2020
New Economics Papers: this item is included in nep-eec, nep-mon and nep-opm
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Persistent link: https://EconPapers.repec.org/RePEc:snb:snbwpa:2020-21

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