Forecasting Foreign Exchange Rates

<p>The economic forecasting is one of the most complicated tasks for the management of any organization and market participants of FOREX. The precise forecasts are vital for correct decision making and can allow either decrease the costs or increase the profit depending on the needed task. Numerous models and methods are presented in the literature for forecasting exchange rates but the problem of optimal and effective investment strategy for forecasting currencies has not been studied thoroughly.</p><p>Therefore the aim of the research is to develop the methodology of predicting foreign exchange rates by combining the two kinds of approaches (fundameatal and technical analysis), taking into account the speculative component in the formation of currency&rsquo;s price on the international capital market. This study is focused on the most efficient, relevant and applicable methods used in the FOREX. Methodology of technical and fundamental analyses on the pattern of the EUR/USD currency pair is presented.</p><p>To achieve the aim we solved the following tasks:</p><p style="margin-left:53.45pt;">-&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; to&nbsp; analyse the essense of exchange rates, Forex market structure, the major currencies, the most actively traded instruments and foundations of technical and fundamental analysis;</p><p style="margin-left:53.45pt;">-&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; to find out the most applied forecasting methods of technical and fundamental analysis in the exicting studies and their practical applications;</p><p style="margin-left:53.45pt;">-&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; to make a comparative comprehensive analysis of the existing exchange rate approaches;</p><p style="margin-left:53.45pt;">-&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; to build the efficient and optimal investing strategy for participants of the foreign exchange market;</p><p style="margin-left:53.45pt;">-&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; to find future possible lines of investigations.</p><p>So, the structure of the project is as follows: Firstly, we overviewed historical developments of exchange rates, the FOREX market and its trading systems, then we analyze the FX market turnover by currencies and the most actively traded FX instruments. Secondly, we dissected models of forecasting foreign exchange rates based on technical and fundamental analysis. In this chapter, we identified the main advantages and disadvantages of methods. In the last chapter the empirical study was accomplished.</p><p>The results of the research allow us to draw the following conclusions:</p><p>-&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; On the general theoretical and practical grounds, technical analysis is used mostly for short-term forecasts, while fundamental analysis is the most suitable method for long-run prediction. Although, the analyses are not mutually exclusive. Therefore, we should take into consideration fundamental analysis in the short run to outline our future expectations and vice versa.</p><p>-&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; As for fundamental analysis, the main fundamental factors affecting the EUR/USD were identified. The regression analysis will be conducted to determine the main drivers of EUR/USD fluctuations.</p><p>-&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; As for technical analysis, the comparison of the existing forecasting models of exchange rate has been made. The obtained results demonstrate advantages and disadvantages of every approach. According to the comprehensive analysis and initial forecasts, the neural network provides the best results among the alternative approaches. Nevertheless, it is necessary to continue testing the models on enlarged data. Besides, the question of the efficiency of strategy based on such forecasts remains a problem.</p><p>Key terms: <em>forecasting exchange rate, FOREX, fundamental analysis, technical analysis</em></p>