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Time-varying risk aversion and renminbi exchange rate volatility: Evidence from CARR-MIDAS model

Xinyu Wu, Haibin Xie and Huanming Zhang

The North American Journal of Economics and Finance, 2022, vol. 61, issue C

Abstract: In this paper, we investigate the relation between time-varying risk aversion and renminbi exchange rate volatility using the conditional autoregressive range-mixed-data sampling (CARR-MIDAS) model. The CARR-MIDAS model is a range-based volatility model, which exploits intraday information regarding the intraday trajectory of the price. Moreover, the model features a MIDAS structure allowing for time-varying risk aversion to drive the long-run volatility dynamics. Our empirical results show that time-varying risk aversion has a significantly negative effect on the long-run volatility of renminbi exchange rate. Moreover, we observe that both intraday ranges and time-varying risk aversion contain important information for forecasting renminbi exchange rate volatility. The range-based CARR-MIDAS model incorporating time-varying risk aversion provides more accurate out-of-sample forecasts of renminbi exchange rate volatility compared to a variety of competing models, including the return-based GARCH, GARCH-MIDAS and GARCH-MIDAS incorporating time-varying risk aversion as well as range-based CARR, CARR-MIDAS and heterogeneous autoregressive (HAR), for forecast horizons of 1 day up to 3 months. This result is robust to alternative risk aversion measure, alternative MIDAS lags as well as alternative out-of-sample periods. Overall, our findings highlight the value of incorporating intraday information and time-varying risk aversion for forecasting the renminbi exchange rate volatility.

Keywords: Time-varying risk aversion; Intraday range; Renminbi exchange rate volatility; CARR-MIDAS; Forecasting (search for similar items in EconPapers)
JEL-codes: C32 C5 G14 G15 (search for similar items in EconPapers)
Date: 2022
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DOI: 10.1016/j.najef.2022.101703

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