Exchange Rate Volatility: An Asymmetric Tale from Mozambique

Abstract

This paper inspects how risk is affected by news sign and size within – depreciation, appreciation, stability – distinct exchange rate trends, and by volatility model choice, taking on various asymmetric Generalized Autoregressive Conditional Heteroskedasticity models to daily Mozambique New Metical against South Africa Rand, MZN/ZAR, exchange rate over January 2010 - December 2014. Our results show that risk measurement and asymmetry of shocks to volatility depend on exchange rate trend, being that estimating the full sample conceals the actual behaviour, and model choice, specifically the degree of nonlinearity and persistence. In particular, we find that when positive/negative news type matches the sign of the exchange rate trend, risk increases by more. Interestingly, this means that in times of appreciation the good news turns out to be bad, likely because they raise the fear of overvaluation, under monitoring in natural resource producers and exporting countries. The findings contribute to the growing concern on nonlinear economic policy design, exchange rate targeting and surely international trade and investment decisions, where an incorrect assessment exchange rate risk and asymmetry may lead to mispricing of assets, namely options, and eventual underestimation of measures, as Value at Risk, relevant for Basel agreement.