Foreign exchange trading and management with the stochastic dual dynamic programming method

We present a novel tool for generating speculative and hedging foreign exchange(FX)trading policies.Our solution provides a schedule that determines trades in each rebalancing period based on future currency prices,net foreign account positions,and incoming(outgoing)flows from business operations.To obtain such policies,we construct a multistage stochastic programming(MSP)model and solve it using the stochastic dual dynamic programming(SDDP)numerical method,which specializes in solving high-dimensional MSP models.We construct our methodology within an open-source SDDP package,avoiding implementing the method from scratch.To measure the performance of our policies,we model FX prices as a mean-reverting stochastic process with random events that incorporate stochastic trends.We calibrate this price model on seven currency pairs,demonstrating that our trading policies not only outperform the benchmarks for each currency,but may also be close to ex-post optimal solutions.We also show how the tool can be used to generate more or less conservative strategies by adjusting the risk tolerance,and how it can be used in a vari-ety of contexts and time scales,ranging from intraday speculative trading to monthly hedging for business operations.Finally,we examine the impact of increasing trade policy uncertainty(TPU)levels on our findings.Our findings show that the volatility of currencies from emerging economies rises in comparison to currencies from devel-oped markets.We discover that an increase in the TPU level has no effect on the aver-age profit obtained by our method.However,the risk exposure of the policies increases(decreases)for the group of currencies from emerging(developed)markets.

Inventory Management with Trade Policy Uncertainty

This paper develops a theoretical model to describe how exporting firms manage their inventory stocks in response to an exogenous trade policy uncertainty shock.Using firm-level data from China Industrial Enterprise Database and China Customs Database on inventory and exports over the period around China's WTO accession,we show that a reduction in trade policy uncertainty significantly increased exporting firms'inventory holdings.The result wasrobust tovarious robustness checks.This effect was found to be stronger for private and foreign firms than state-owned enterprises and mainly driven by firms from the coastal region.We also found that the reduction in trade policy uncertainty increased the frequency and the average volume of export transactions,and that this was the mechanism behind the effect.This paper helps to understand exporting firms'optimal inventory problem arising from tradepolicyuncertaintyand shocks.

The Interactive Impact of Trade Policy Uncertainty and Credit Constraint Heterogeneity on Firms' Export Margins: Theory and Empirics

This paper develops a simple trade model of heterogeneous firms, which incorporates the dual heterogeneity of credit constraints at the firm and industry levels and reveals the effects of the interaction mechanisms of trade policy uncertainty and credit constraint heterogeneity on exporters’ behaviour. The model confirms that the higher the level of industrial credit constraints, the greater the interaction of trade policy uncertainty and credit constraint heterogeneity, but firms with lower levels of credit constraints within a specific industry are more affected by this interaction. Then, based on the highly dis-aggregated trade data of China’s firms from 2000 to 2013, this paper provides empirical evidence for the main predictions and mechanisms of the theoretical model.