Essays on exchange rate behavior and financial anomalies

Modeling and explaining exchange rate behavior and financial anomalies have always been important and challenging topics in international finance. This dissertation presents three empirical studies with the first two focusing on the behavior of exchange rates and the last one investigating the momentum effects in Asian emerging equity markets.;Chapter 1 looks at the short-horizon forecastability of the major dollar exchange rates during the recent floating period. I propose a forecasting model which combines a standard multi-state Markov-switching model with popular time-series filtering techniques. This model exploits the fact that exchange rates tend to follow highly persistent trends and thus the key to beating the random walk is to identify these trends. By removing outliers in the noisy data, filtering techniques help reduce the over-sensitivity of the conventional Markov-switching model and produce stable estimates of the trend components. Out-of-sample forecasts show that the proposed model can achieve superior forecast accuracy relative to the random walk at short horizons. The results are also robust for different sample spans across all major dollar rates.;Chapter 2 examines the transitional effects of macroeconomic determinants on the exchange rate and ARCH effects in the volatility of the exchange rate. I consider modeling the change of log exchange rate following a Markovian process in which the transition probabilities are affected by fundamental variables. The model further takes into account the ARCH effects in the error structure of the exchange rate. Four different macro-fundamental models are examined, including the purchasing power parity, Mark's (1995) specification, the real interest differential model, and the portfolio balance model. A series of model specification tests suggest that macroeconomic determinants may affect the dynamics of exchange rates in a nonlinear way through the transition probabilities and the exchange rates tend to follow ARCH process with different regimes.;Chapter 3 investigates an important financial anomaly in the Asian emerging stock markets - momentum effects. Based on simple trading strategies, I present empirical evidence of momentum effects in five emerging equity markets. I show that the abnormal profitability of momentum strategies in emerging markets is qualitatively similar to those documented in developed markets but much lower in magnitude. I also find that the momentum effects tend to be negatively correlated with economic conditions, that is, the momentum effects are generally stronger during recessions.