Richard M. Levich

The Significance of Technical Trading-Rule Profits in the Foreign Exchange Market: a Bootstrap Approach

In this paper, we present new evidence on the profitability and statistical significance of technical trading rules in the foreign exchange market. We utilize a new data base, currency futures contracts for the period 1976-1990, and we implement a new testing procedure based on bootstrap methodology. Using this approach, we generate thousands of new exchange rate series constructed by random reordering of each original series. We then measure the profitability of the technical rules for each new series. The significance of the profits in the original series is assessed by comparison to the empirical distribution of results derived from the thousands of randomly generated series. Overall, our results suggest that simple technical trading rules have very often led to profits that are highly unusual. Splitting the entire 15-year sample period into three 5-year periods reveals that on average the profitability of some trading rules declined in the 1986-1990 period although profits remained positive (on average) and significant in many cases.

Covered Interest Arbitrage: Unexploited Profits?

Empirical studies of covered interest arbitrage suggest that the parity condition is not always satisfied and thus implying unexploited profit opportunities. This paper provides a procedure for estimating transaction costs in the markets for foreign exchange and for securities. Allowance for these costs accounts for most of the apparent profit opportunities. It is shown that in addition to transaction costs, demand and supply elasticities in the various markets and lags in executing arbitrage can account for all of the apparent profit opportunities. It is concluded that empirical data are consistent with the interest parity theory and that covered interest arbitrage does not entail unexploited profit opportunities.

Transaction Costs and Interest Arbitrage: Tranquil versus Turbulent Periods

This paper deals with the effects of transaction costs on the efficacy of covered interest arbitrage during three periods: 1962-67, the tranquil peg; 1968-69, the turbulent peg; and 1973-75, the managed float. Several conclusions emerge: (i) during the managed float transaction costs have risen dramatically, (ii) these costs played a similar role in accounting for deviations from parity during the periods of the tranquil peg and the managed float but not during the turbulent peg. Similar conclusions emerge from a time-series analysis of the various exchange rates with the implication that a classification of periods according to the degree of turbulence is preferred to a classification based on the legal arrangement (e.g., pegged or floating rates), and (iii) covered interest arbitrage does not seem to entail unexploited opportunities for profits.

Covered interest arbitrage in the 1970's

Abstract This paper provides an empirical overview on covered interest arbitrage during the flexible exchange rate regime of the 1970s. It estimates the cost of transactions in foreign exchange and security markets and shows that these costs account for most of the deviations from parity.

Underpricing of New Equity Offerings by Privatized Firms: An International Test

In this paper, we study a large sample of 507 privatization offerings from 39 countries over the period 1979-1996. Our objectives are twofold. First, we document the extent of short-run underpricing of these privatization offerings and measure their variation across countries, industries, and years, as well as drawing comparisons to private company IPOs. Second, we test alternative explanations of the determinants of short-run underpricing drawing on various models of maximizing behavior by underwriters, augmented by variables that proxy for national political objectives. Overall, we find support for elements of asymmetric information theory, investor sentiment theory and the reputation building hypothesis. With the exception of the Gini coefficient, our political proxy variables are typically not significant. Thus to a significant degree, the investment banking strategies believed to characterize IPOs of private companies in industrial countries may also play a role in the IPO strategies of state-owned-enterprises in both industrial and lesser developed economies.

Chapter 19 Empirical studies of exchange rates: Price behavior, rate determination and market efficiency

Publisher Summary This chapter provides an overview of empirical results concerning recent exchange rate behavior. Alternative valuation measures, time series, and distributional properties have been covered in the chapter, along with estimates of transaction costs in the foreign exchange market. The chapter reviews empirical tests of specific models of exchange rate determination. It tests a particular model of exchange rate determination to forecast exchange rates or to examine the effect of other economic policies on exchange rates and vice versa. The chapter discusses the simple monetary approach, where exchange rates are determined by the relative demand for two moneys, and then proceeds to a portfolio balance approach that introduces bonds. It presents tests of foreign exchange market efficiency. Finally, the chapter provides an overview of efficient market theory, a review of evidence on the efficiency of markets in removing risk-free opportunities, and the evidence of the efficiency of markets in removing risky profit opportunities. It includes the evidence on the relationship between the forward rate and future spot rate.

Are All Currency Managers Equal

Pojarliev and Levich present a post-sample study of currency fund managers showing that alpha hunters and especially alpha generators are more effective in providing diversification benefits for a global equity portfolio than currency managers who earn beta returns from popular style strategies or managers with high total returns regardless of their source. The authors’ study is unusual in that they 1) measure the alpha from currency investing using a simple factor model rather than using total excess returns, 2) use rankings of currency managers from an earlier published study and examine their performance truly out of sample, and 3) use data that reflect actual trades and returns earned by these managers so that the data are not contaminated by the usual biases in hedge fund databases. Their results suggest that a factor model approach to analyzing currency fund returns, coupled with the revealed degree of alpha and beta persistence in their data, offer institutional investors with large equity exposure a useful tool for improving performance.

Predictability and ‘good deals’ in currency markets

In this paper, we study predictability in currency markets over the period 1972–2012. To assess the economic significance of this predictability, we construct an upper bound on the explanatory power of predictive regressions of currency returns. The bound is motivated by “no good-deal” restrictions that, in efficient markets, rule out unduly attractive investment opportunities. We find that currency predictability exceeds this bound during recurring albeit short-lived episodes. Excess-predictability is highest in the 1970s and tends to decrease over time, but is still present in the final part of the sample period. Moreover, periods of high and low predictability tend to alternate. These stylized facts pose a challenge to Fama’s (1970) Efficient Market Hypothesis but are consistent with Lo’s (2004) Adaptive Market Hypothesis, coupled with a slow convergence towards efficient markets. Transaction costs can explain much of the daily excess-predictability, but not the monthly excess-predictability.

Introduction: Ratings, Rating Agencies and the Global Financial System: Summary and Policy Implications

In this introductory chapter, we begin with a brief overview of the issues that have motivated our research into the role of credit ratings and credit rating agencies in the global financial system. We then summarize the main themes in each of the papers and highlight the major findings. In the final section, we suggest several policy implications and conclusions that can be drawn from this research.

Interest Rate Parity

The interest rate parity (IRP) relationship plays a key role in global macroeconomic models and is considered a benchmark for perfect international capital mobility. In offshore capital markets, empirical studies confirm that deviations from IRP are regularly smaller than foreign exchange and money market transaction costs, implying that few, if any, risk-free arbitrage profit opportunities exist. During the turbulent Global Financial Crisis, bid–ask spreads widened in currency markets, credit and counterparty risks increased, and access to financial capital was constrained, all of which contributed to greater deviations from IRP compared to the relatively tranquil precrisis period.