Common Risk Factors in Currency Markets
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Verdelhan_Common Risk.pdf
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569.41 KB
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Adobe PDF
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c89420a10296a6afbeb97e81957968d4
Author(s)
Roussano, Nikolai
Lustig, Hanno
Date Issued
August 2011
Journal
Review of Financial Studies
Publisher
Oxford University Press on behalf of The Society for Financial Studies
Citation
Lustig, Hanno, Nikolai Roussanov, and Adrien Verdelhan. “Common Risk Factors in Currency Markets.” Review of Financial Studies (2011) 24(11): 3731-3777.
Version
Author's final manuscript
Abstract
We identify a “slope” factor in exchange rates. High interest rate currencies load more on this slope factor than low interest rate currencies. This factor accounts for most of the cross-sectional variation in average excess returns between high and low interest rate currencies. A standard, no-arbitrage model of interest rates with two factors—a country-specific factor and a global factor—can replicate these findings, provided there is sufficient heterogeneity in exposure to global or common innovations. We show that our slope factor identifies these common shocks, and we provide empirical evidence that it is related to changes in global equity market volatility. By investing in high interest rate currencies and borrowing in low interest rate currencies, U.S. investors load up on global risk.
Description
http://rfs.oxfordjournals.org/content/early/2011/08/26/rfs.hhr068.full
MIT Department
Sloan School of Management
Terms of Use
Creative Commons Attribution-Noncommercial-Share Alike 3.0
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DOI of Published Version
http://dx.doi.org/10.1093/rfs/hhr068
https://doi.org/10.1093/rfs/hhr068
