Investigating adaptive behavior in the foreign exchange market: ZAR versus USD and CNY

Abstract

This study examines the adaptive behavior of South Africa’s rand (ZAR) exchange rate against its major trading partners, the US Dollar (USD) and the Chinese Yuan (CNY) over the period 1999-2020. The study uses a rolling parametric linear variance ratio (VR) test, nonparametric linear runs test, and non-linear Brock, Dechert and Scheinkman (BDS) test to determine time-varying predictability and regression analyses to assess the effect of market conditions. The results show that the foreign exchange market was found to be inefficient based on the VR tests, but efficient with very few windows of inefficiency based on the runs test and BDS test. In addition, apart from the GDP, none of the market conditions studied is associated with non-parametric linear and nonlinear predictabilities. The study draws two main conclusions. Firstly, the South African foreign exchange market is adaptively efficient. Secondly, foreign exchange market efficiency is primarily driven by the level of economic growth. Practically, it will be difficult for investors to exploit the few windows of predictability in the South African foreign exchange market by focusing mainly on the market conditions studied.