Professional exchange rate forecasts and currency investments

Abstract

The foreign exchange market establishes the price of each (domestic) currency in terms of other (foreign) currencies. The Exchange rate is the price of one unit of foreign currency in units of domestic currency, in other words how much one has to pay in domestic currency in order to buy one unit of foreign currency. Markets for the exchange of national currencies have existed for centuries. For most of the 20 th century, the list of the markets participants was static (commercial banks in the United States and other banks around the world), the product list also was static (spotforward products with fixed shortterm maturities) and competition from exchangetraded products was nonexistent. To sum up, over the past decades, not only financial markets have experienced unusually large price swings but also the speed and volatility of price movements accelerated. Exchange rate volatility, along with volatility in other financial prices, has fostered the development of new markets and instruments (such as forwards futures and options) that may either reduce or enhance one’s exposure to these volatile conditions. Finally, domestic residents may simply view foreign currency assets as undervalued, and they may demand foreign exchange for pure speculative purposes to earn higher returns.