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CONDITIONS OF PURE ARBITRAGE APPLICATIONS: EVIDENCE FROM THREE CURRENCIES

CONDITIONS OF PURE ARBITRAGE APPLICATIONS: EVIDENCE FROM THREE CURRENCIES This study analyzes the pure arbitrage conditions across three of the “Anglo-Saxon capitalism” currencies: Australian dollar, British pound, and US dollar. We examine the relationship between spot-forward exchange rates and domesticforeign interest rates in financial markets. We find that the most important deter - minants that contribute to the occurrence of pure arbitrage conditions are domestic spot currency rate and domestic interest rate. Daily data is collected from the DataStream/Thomson Reuters database and analyzed in probit regression models. The predicting accuracy check is conducted through in-sample and out-of-sample tests. Our results indicate that the level of significance for factor coefficients and prediction accuracy decrease with the time lag: the longer the time lag, the lower the prediction power. JEL codes: F31; G15 Keywords: foreign exchange; interest rate; currency risk; pure arbitrage; prediction power; probit model http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Economics, Management, and Financial Markets Addleton Academic Publishers

CONDITIONS OF PURE ARBITRAGE APPLICATIONS: EVIDENCE FROM THREE CURRENCIES

Economics, Management, and Financial Markets , Volume 11 (3): 19 – Jan 1, 2016

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Publisher
Addleton Academic Publishers
Copyright
© 2009 Addleton Academic Publishers
ISSN
1842-3191
eISSN
1938-212X
Publisher site
See Article on Publisher Site

Abstract

This study analyzes the pure arbitrage conditions across three of the “Anglo-Saxon capitalism” currencies: Australian dollar, British pound, and US dollar. We examine the relationship between spot-forward exchange rates and domesticforeign interest rates in financial markets. We find that the most important deter - minants that contribute to the occurrence of pure arbitrage conditions are domestic spot currency rate and domestic interest rate. Daily data is collected from the DataStream/Thomson Reuters database and analyzed in probit regression models. The predicting accuracy check is conducted through in-sample and out-of-sample tests. Our results indicate that the level of significance for factor coefficients and prediction accuracy decrease with the time lag: the longer the time lag, the lower the prediction power. JEL codes: F31; G15 Keywords: foreign exchange; interest rate; currency risk; pure arbitrage; prediction power; probit model

Journal

Economics, Management, and Financial MarketsAddleton Academic Publishers

Published: Jan 1, 2016

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