Compositional Analysis of Exchange Rates

Maldonado, Wilfredo L.; Egozcue, Juan José; Pawlowsky‐Glahn, Vera

doi:10.1007/978-3-030-73249-3_25

Cited by 1 publication

(1 citation statement)

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“…Once the danger of incurring serious methodological problems when using standard financial ratios in this type of study is explained, a new type of financial ratio based on the methodology of compositional data analysis, or simply Compositional Data (CoDa), is suggested, the validity of the results of which has already been extensively tested in other fields [23][24][25][26][27][28]. While the CoDa methodology emerged from the fields of geometry and chemistry at the end of the last century [23,29], it has since been extended to all the other scientific fields of study, including economics and other social sciences [30], and has started to be regularly used in studies in the area of finance [31][32][33][34][35][36][37][38][39][40][41][42][43] and, more recently, in the area of accounting [16,22,[44][45][46][47][48]. The article uses a second example with real data of a particular industry in a European country, which shows the invalidity of the results obtained using the traditional methodology and how the proposed methodology avoids the abovementioned problems.…”

Section: Introductionmentioning

confidence: 99%

New Financial Ratios Based on the Compositional Data Methodology

Linares‐Mustarós

Àngels

Serrat

et al. 2022

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Due to the type of mathematical construction, the use of standard financial ratios in studies analyzing the financial health of a group of firms leads to a series of statistical problems that can invalidate the results obtained. These problems originate from the asymmetry of financial ratios. The present article justifies the use of a new methodology using Compositional Data (CoDa) to analyze the financial statements of an industry, improving analyses using conventional ratios, since the new methodology enables statistical techniques to be applied without encountering any serious drawbacks, such as skewness and outliers, and without the results depending on the arbitrary choice as to which of the accounting figures is the numerator of the ratio and which is the denominator. An example with data on the wine industry is provided. The results show that when using CoDa, outliers and skewness are much reduced, and results are invariant to numerator and denominator permutation.

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