Modeling moneyness volatility in measuring exchange rate volatility

Hoque, Ariful and Krishnamurti, Chandrasekhar (2011) Modeling moneyness volatility in measuring exchange rate volatility. In: CIFEr 2011: IEEE Symposium on Computational Intelligence for Financial Engineering and Economics , 11-15 Apr 2011, Paris, France.

Abstract

The implied volatility (IV) is widely believed to be the best measure of exchange rate volatility. Despite its widespread usage, the IV approach suffers from an obvious chicken-egg problem: obtaining an unbiased IV requires the options to be priced correctly and calculating option prices accurately requires an unbiased IV. We contribute to this literature by developing a new model for exchange rate volatility which we term as the “moneyness volatility (MV)”. Besides eliminating the chickenegg problem of IV, the MV approach outperforms the IV in forecasting ability in both in-sample and out-of-sample tests. The F-test, Granger-Newbold test and Diebold-Mariano test results consistently reveal that MV outperforms IV in estimating as well as forecasting exchange rate volatility. Furthermore, test results reveal that our approach works well for the six major currency options. Our pioneering approach in modeling exchange rate volatility has far-reaching implications for academicians, professional traders and risk managers.


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Item Type: Conference or Workshop Item (Commonwealth Reporting Category E) (Paper)
Refereed: Yes
Item Status: Live Archive
Additional Information: Permanent restricted access to Published version due to publisher copyright policy.
Depositing User: epEditor USQ
Faculty / Department / School: Historic - Faculty of Business and Law - School of Accounting, Economics and Finance
Date Deposited: 21 Oct 2011 01:36
Last Modified: 09 Sep 2014 23:05
Uncontrolled Keywords: implied volatility; moneyness volatility; realized volatility; Granger-Newbold test; Diebold-Mariano test
Fields of Research (FOR2008): 15 Commerce, Management, Tourism and Services > 1502 Banking, Finance and Investment > 150205 Investment and Risk Management
14 Economics > 1402 Applied Economics > 140210 International Economics and International Finance
14 Economics > 1403 Econometrics > 140303 Economic Models and Forecasting
Socio-Economic Objective (SEO2008): B Economic Development > 91 Economic Framework > 9102 Microeconomics > 910206 Market-Based Mechanisms
Identification Number or DOI: doi: 10.1109/CIFER.2011.5953555
URI: http://eprints.usq.edu.au/id/eprint/19839

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