Currency Crisis Prediction Using ADR Market Data: An Options-based Approach
Stefan Eichler, Dominik Maltritz
International Journal of Forecasting,
No. 4,
2010
Abstract
During capital control episodes, large price deviations between American Depositary Receipts (ADR) and their underlying stocks signal that a currency crisis is about to occur. We interpret this price spread as the price of a call option. Using option pricing theory we derive detailed information about both the probability of a currency crisis and the expected magnitude of devaluation. Analyzing daily ADR market data preceding the Venezuelan crisis (1996), our approach predicts crisis probabilities of almost 100% and forecasts the exchange rate after floating quite accurately. During the Argentine crisis (2002), the estimated exchange rates are similar to the actual ones.
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Deriving the Term Structure of Banking Crisis Risk with a Compound Option Approach: The Case of Kazakhstan
Stefan Eichler, Alexander Karmann, Dominik Maltritz
Discussion paper, Series 2: Banking and financial studies, No. 01/2010,
No. 1,
2010
Abstract
We use a compound option-based structural credit risk model to infer a term structure of banking crisis risk from market data on bank stocks in daily frequency. Considering debt service payments with different maturities this term structure assigns a separate estimator for short- and long-term default risk to each maturity. Applying the Duan (1994) maximum likelihood approach, we find for Kazakhstan that the overall crisis probability was mainly driven by short-term risk, which increased from 25% in March 2007 to 80% in December 2008. Concurrently, the long-term default risk increased from 20% to only 25% during the same period.
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The ADR Shadow Exchange Rate as an Early Warning Indicator for Currency Crises
Stefan Eichler, Alexander Karmann, Dominik Maltritz
Journal of Banking and Finance,
No. 11,
2009
Abstract
We develop an indicator for currency crisis risk using price spreads between American Depositary Receipts (ADRs) and their underlyings. This risk measure represents the mean exchange rate ADR investors expect after a potential currency crisis or realignment. It makes crisis prediction possible on a daily basis as depreciation expectations are reflected in ADR market prices. Using daily data, we analyze the impact of several risk drivers related to standard currency crisis theories and find that ADR investors perceive higher currency crisis risk when export commodity prices fall, trading partners’ currencies depreciate, sovereign yield spreads increase, or interest rate spreads widen.
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