Ringgit Forecast using Regression Analysis (Reblog)

According to Investopedia, there are six major factors that drive the value of a currency but not limited to - inflation, interest rate, current account balance, public debt, terms of trade, and political stability and economics performance (Read more here).

There could be other unique factors that influence the exchange rate.  For example, Malaysia is an oil and gas producer, one may wonder that whether oil price will have an impact on Ringgit exchange rate?  A simple method to study the relationship between Ringgit exchange rate and oil price, is the regression analysis.  Regression analysis is a statistical process for estimating the relationships among variables (Read more here).

The following graph shows the regression plot of USD/RM vs Brent Crude Oil from July 2005 to July 2017.  It shows that the Ringgit movement was significantly influenced by oil price.  Ringgit strengthened when oil price was high while the Ringgit weakened when oil price was low. 

The scattered dark blue dots are the actual data of USD/RM corresponding to respective Brent Crude Oil price from July 2005 to July 2015 while the scattered red dots are the actual data of USD/RM corresponding to respective Brent Crude Oil price from August 2015 to July 2017.  The light blue curve is the fitted regression line between USD/RM and Brent Crude Oil price (July 2005 – July 2017, R² = 0.74) while the dashed red line is the + one standard deviation plot from the fitted regression line.

It is interesting to observe that before Aug 2015, the Ringgit was stronger and was well predicted by the regression line.  However, since Aug 2015, the Ringgit has weakened by + one standard deviation.

In the World Economic Outlook, April 2017 report, International Monetary Fund (IMF) predicted the oil price to be trading around USD55 per barrel in 2017 – 18 (Read more here).  Based on this, the Ringgit could be forecasted using the above regression analysis.  If all the post-2015 negative issues in Malaysia are resolved, Ringgit could trade around USD/RM 3.80.  Nevertheless, if the negative issues persist, the Ringgit may trade around USD/RM 4.18 as the above graph suggests.

Although regression analysis is widely used to infer causal relationships between the independent and dependent variables, do keep in mind that correlation does not imply causation!  The underlying causalities of the variables have to be analysed separately.

Reblog notice: The main content of this article was first published in MY MPCA blogspot (Read more here), where engineering2finance is the main author of that article.


Disclaimer:  The above analysis does not imply any buy or sell recommendation.  The author disclaims all liabilities arising from any use of the information contained in this article.