The Correlation Structure of FX Option Markets Before and Since the Financial Crisis

Applied Financial Economics, Vol. 20, No.1-2, pp. 73-84, 2009

24 Pages Posted: 6 May 2011

See all articles by George Chalamandaris

George Chalamandaris

Athens University of Economics and Business - Department of Accounting and Finance

Andrianos E. Tsekrekos

Athens University of Economics and Business - Department of Accounting and Finance

Date Written: April 25, 2009

Abstract

The liquidity crunch and the ensuing financial crisis have unambiguously affected all national economies and global currency exchange rates. In this article we ask whether the cross-currency correlation structure has changed since 2007. Using an extensive set of volatility surfaces implied from over-the-counter options on 11 different exchange rates, as well as recent advances in static and dynamic factor models, we are able to show that the number of factors that innovate the correlation structure has not changed in the last two and a half years. It is the volatility, the persistence and the significance of global systematic factors, vis-a`-vis regional or economy-specific ones, that appear to have changed dramatically. The implications for the risk management of currency exposures and for the predictability of exchange rate volatility are also outlined.

Keywords: Common shocks, Implied volatility surfaces, FX options, Dynamic factor model, Static factor representation, Covariance, Correlation

JEL Classification: C33, F31, G13

Suggested Citation

Chalamandaris, George and Tsekrekos, Andrianos E., The Correlation Structure of FX Option Markets Before and Since the Financial Crisis (April 25, 2009). Applied Financial Economics, Vol. 20, No.1-2, pp. 73-84, 2009, Available at SSRN: https://ssrn.com/abstract=1831628

George Chalamandaris (Contact Author)

Athens University of Economics and Business - Department of Accounting and Finance ( email )

76 Patission Street
GR-104 34 Athens
Greece

Andrianos E. Tsekrekos

Athens University of Economics and Business - Department of Accounting and Finance ( email )

76 Patission Street
GR-104 34 Athens
Greece

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