Abstract

In this paper we investigate the relationship between risk premium and a time-varying conditional variance of spot rate using weekly Swiss franc/US dollar exchange-rate data. First, we apply an EGARCH-in-mean framework to test the unbiasedness hypothesis of the forward rate with a volatility dependent risk premium. The corresponding estimates point to no significant influence of volatility on the risk premium, and reject the unbiasedness hypothesis. Second, we apply a seminonparametric, nonlinear impulse-response analysis to the spot-rate change and the forward premium. This framework allows us to analyze the risk premium/volatility relationship without using a specific, parametric model such as EGARCH-in-mean. The latter analysis confirms the negative EGARCH-in-mean results with respect to the risk premium/volatility relationship, although the volatility dynamics estimated is clearly different from that implied by the EGARCH estimate. Moreover, the forward premium has a nonlinear dynamic influence on the spot rate, whereas the converse is not true.

Recommended Citation

Chiente Hsu and Peter Kugler (1997) "A Nonlinear Analysis of Forward Premium and Volatility ", Studies in Nonlinear Dynamics & Econometrics: Vol. 1: No. 4, Article 2.
http://www.bepress.com/snde/vol1/iss4/art2

Related Files

hsu-kugler_data.zip (5 kB)
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