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Tail events in the FX markets since 1740

Kim Abildgren (Danmarks Nationalbank, Copenhagen, Denmark)

Journal of Risk Finance

ISSN: 1526-5943

Article publication date: 19 May 2014

Abstract

Purpose

The purpose of this paper is to explore the extent of the so-called “small-sample problem” within quantitative exchange-rate risk management.

Design/methodology/approach

The authors take a closer look at the frequency distribution of nominal price changes in the European foreign exchange markets.

Findings

The analysis clearly illustrates the risk of seriously underestimating the probability and magnitude of tail events when frequency distributions are derived from fairly short data samples.

Practical implications

The authors suggest that financial institutions and regulators should have an eye for the long-term historical perspective when designing sensitivity tests or “worst case” scenarios in relation to risk assessments and stress tests.

Originality/value

The authors add to the literature by analysing the distribution of nominal exchange-rate fluctuations on the basis of a unique quarterly data set for ten European exchange-rate pairs covering a time span of 273 years constructed by the authors. To the best of the authors' knowledge this is the first study on nominal exchange-rate changes for a large number of exchange-rate pairs based on quarterly data spanning almost three centuries.

Keywords

Acknowledgements

The authors wish to thank the Editor, reviewer, colleagues from Danmarks Nationalbank and participants at the PhD course on “Financial Stability and Financial Crises” (Southern University of Denmark, June 2013) for their useful comments on the preliminary versions of this paper. Views and conclusions expressed in this paper are those of the author and do not necessarily represent those of Danmarks Nationalbank. The authors alone are responsible for any remaining errors.

Citation

Abildgren, K. (2014), "Tail events in the FX markets since 1740", Journal of Risk Finance, Vol. 15 No. 3, pp. 294-311. https://doi.org/10.1108/JRF-04-2014-0041

Publisher

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Emerald Group Publishing Limited

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