Interest Rate Arbitrage in Currency Baskets: Forecasting Weights and Measuring Risk

Peter Christoffersen and Lorenzo Giorgianni

No 1999/016, IMF Working Papers from International Monetary Fund

Abstract: When constructing hedged interest rate arbitrage portfolios for basket currencies, two issues arise: first, how are the unknown future basket weights optimally forecasted from past exchange rate data? And, second, how is risk—in terms of the conditional variance of expected profits from the interest rate arbitrage portfolio—appropriately measured when the basket weights are time-varying? Answers to these questions are provided within a time-varying parameter modeling framework estimated through the Kalman filter. An empirical application is devoted to the experience of the Thai baht currency basket (January 1992–February 1997).

Keywords: WP; exchange rate; U.S. dollar; Time-varying Parameters; Cointegration; Exchange Rates; basket weight; standard deviation; dollar rate; dollar exchange rate; intervention rate; Cointegrating regression; risk-adjusted return; cross-currency risk; Currencies; Hedging; Conventional peg; Public expenditure review (search for similar items in EconPapers)
Pages: 30
Date: 1999-01-01
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Citations: View citations in EconPapers (3)

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Journal Article: Interest-Rate Arbitrage in Currency Baskets: Forecasting Weights and Measuring Risk (2000)
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