Conditional Volatility Persistence in the Foreign Exchange Market: Meteor Shower and Heat Wave Revisited

Abstract

This paper aims to reinvestigate the meteor shower and heat wave effects in the foreign exchange market. Namely, the meteor shower effect means that the volatility spills over among markets, while the heat waves effect suggests that the volatility is geography-specific, meaning the volatility persists within the market (Engel, Ito, and Lin, 1990). Using conventional measures of realized variance (RV), we confirm both meteor shower and heat waves effects in the FX markets as documented in Lahaye and Neely (2014), however the meteor shower effect has been increasing rapidly and dominated the process of volatility spillover since 2009. Furthermore, by expanding the conditional volatility persistence (CVP) model as proposed in Wang and Yang (2016), we find time-varying persistence in volatility dynamics in the FX market. Specifically, the information shocks (i.e. positive and negative returns) contributes almost one half (50%) to the total variations in volatility persistence, RV itself accounts for about 18%, while the price discovery, which facilitates the incorporation of information, contributes the remaining portion, i.e. around 32% of total variations.