Dynamic allocations for currency futures under switching regimes signals

Lorenzo Reus, John M. Mulvey

Research output: Contribution to journalArticlepeer-review

5 Scopus citations

Abstract

Over the last decades, speculative investors in the FX market have profited in the well known currency carry trade strategy (CT). However, during currencies or global financial crashes, CT produces substantial losses. In this work we present a methodology that enhances CT performance significantly. For our final strategy, constructed backtests show that the mean-semivolatility ratio can be more than doubled with respect to benchmark CT. To do the latter, we first identify and classify CT returns according to their behavior in different regimes, using a Hidden Markov Model (HMM). The model helps to determine when to open and close positions, depending whether the regime is favorable to CT or not. Finally we employ a mean-semivariance allocation model to improve allocations when positions are opened.

Original languageEnglish (US)
Pages (from-to)85-93
Number of pages9
JournalEuropean Journal of Operational Research
Volume253
Issue number1
DOIs
StatePublished - Aug 16 2016

All Science Journal Classification (ASJC) codes

  • Computer Science(all)
  • Modeling and Simulation
  • Management Science and Operations Research
  • Information Systems and Management

Keywords

  • Carry trade
  • Currency futures
  • Investment analysis
  • Mean-semivariance portfolio optimization
  • Regime identification

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