Are the results stable over time?

It is not news that news moves financial markets. This blog will publish research on how, when, why, and which news moves what financial markets. Are the news effects estimated in this blog stable, or does the relationship change over time? It appears that the news coefficient stabilizes at around 25 observations. This suggests that there are sufficient expectations data from most of the derivatives auctions to estimate the news impact and for the results to be reliable. The length of the economic expectations data from derivatives auctions is listed here. The details of the stability tests follows. One way to assess stability of the news effect is to calculate the results using a recursive method that calculates the news coefficient of the simple regression with an expanding sample size. The results for a couple of exchange rates following the non-farm payroll announcements are plotted below:

CAD

GBP

The CUSUM or cumulative sum of the recursive residuals and the CUSUM of squares also provide indications of parameter stability. Below the CUSUM test and 5% confidence levels and no indication of parameter instability (when the blue line stays inside the red dotted lines the parameter is stable).

CHF

EUR

The charts below show the cumulative sum of squares test and 5% significance level and the “S” shape reflects what is shown in the recursive coefficients above, that is that there is some change in the exchange rate news coefficients around 15 observations and at 25 whence the coefficients become stable (again for this test when the blue line stays inside the red dotted lines the parameter is stable).

AUD

JPY

The U.S. International Trade Balance relationship was found by Faust et. al.* to be potentially one that has shifted over time. For my sample this does not appear to be an issue, probably because there are only 19 observations available from the derivatives auctions from February 2005 (when the Trade Balance derivatives auction was started) to August 2006. As for the nonfarm payrolls above, recursive residuals for the Trade Balance were calculated. There is some violation of the 5% confidence interval for the CUSUM of squares test but because this does not show up in the CUSUM or recursive coefficients tests it may be due to the error variance not being constant rather than the parameter.

In summary, it appears that the news coefficient stabilizes at around 25 observations. This suggests that there are sufficient expectations data from the derivatives auctions to estimate the news impact.

* Faust, Jon, Rogers, John H., Wang, Shing-Yi B., Wright, Jonathan H., (2003) “The high-frequency response of exchange rates and interest rates to macroeconomic announcements” U.S. Board of Governors of the Federal Reserve System, International Finance Discussion Papers, number 784.