Sovereign rating changes and realized volatility in Asian foreign exchange markets during the Asian crisis

Abstract

This article explores the impacts of sovereign rating changes by multiple rating agencies on foreign exchange rate volatility during the Asian crisis. We extend the existing literature to explore the impacts of multiple agency sovereign rating changes on the realized volatility of foreign exchange markets. Our findings show that the rating downgrades are associated with increases in foreign exchange volatility, and that multiple downgrades lead to a much higher increase in volatility as compared to single downgrades. Our results demonstrate that rating downgrades are part of the important news for the national markets consistent with the analysis of contagion analysis in Baur and Fry (2006, 2009).

Keywords:

• realized volatility
• sovereign rating changes
• foreign exchange market

JEL Classification::

• G15

Acknowledgements

The authors would like to acknowledge the financial support from ANU college internal funding to obtain data from Olsen Associates. They also thank Rahkal Dave from Olsen Data Associates. The analysis of the Olsen Associates data in this project has been completed while Treepongkaruna was employed by The Australian National University. The research in this project was funded by a Monash University Faculty of Business and Economics Research Grant. Brooks and Treepongkaruna also acknowledge the financial support of ARC Discovery Grant DP1093344. The authors wish to thank the participants at the Deakin University School of Accounting, Economics and Finance seminar and the 2010 International Conference on Management Science and Engineering for their helpful comments on earlier versions of this article. The authors also wish to thank the editor of the journal and two anonymous referees for their helpful comments on the earlier versions of this article.

Notes

¹ Following Treepongkaruna and Wu (2010), we use 30-min return interval as their volatility signature plot show that 30-min return interval is appropriate for similar sample data and period. The use of the 30-min return interval is also adopted by Hooper et al. (2009) in their modelling of exchange rate volatility forecasting.