Investing Under Model Uncertainty: Decision Based Evaluation of Exchange Rate and Interest Rate Forecasts in the US, UK and Japan

Anthony Garratt () and Kevin Lee

No 616, Birkbeck Working Papers in Economics and Finance from Birkbeck, Department of Economics, Mathematics & Statistics

Abstract: We evaluate the forecast performance of a range of theory-based and atheoretical models explaining exchange rates and interest rates in US, UK and Japan. The decision-making environment is fully described for an investor who optimally allocates portfolio shares to domestic and foreign assets. Methods necessary to compute and use forecasts in this context are proposed, including the means of combining density forecasts to deal with model uncertainty. An out-of-sample evaluation exercise covering the 1990’s is described, comparing statistical criteria with decision-based criteria. The theory-based models are found to perform relatively well when their forecasts are judged by their economic value.

Keywords: Model Averaging; Buy and Hold; Exchange rate and interest rate forecasts. (search for similar items in EconPapers)
JEL-codes: C32 C53 E17 (search for similar items in EconPapers)
Date: 2006-12
New Economics Papers: this item is included in nep-cba, nep-ecm, nep-for, nep-mac and nep-sea
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Citations: View citations in EconPapers (1)

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https://eprints.bbk.ac.uk/id/eprint/26927 First version, 2006 (application/pdf)

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