Countercyclical Currency Risk Premia
By Hanno Lustig, Nikolai L. Roussanov, A. Verdelhan. 2013
326 citations recorded by the source corpus.
We describe a novel currency investment strategy, the ‘dollar carry trade,’ which delivers large excess returns, uncorrelated with the returns on well-known carry trade strategies. Using a no-arbitrage model of exchange rates we show that these excess returns compensate U.S. investors for taking on aggregate risk by shorting the dollar in bad times, when the U.S. price of risk is high. The countercyclical variation in risk premia leads to strong return predictability: the average forward discount and U.S. industrial production growth rates forecast up to 25% of the dollar return variation at the one-year horizon. The estimated model implies that the variation in the exposure of U.S. investors to worldwide risk is the key driver of predictability.
Subfields: Economics and Econometrics, Finance
View Paper: https://www.semanticscholar.org/paper/a56e40532dcac2952b511e6a848d14d613c2ab75
How researchers see this paper
The researchers whose trusted networks rank it highest, strongest advocate first. Every researcher gets a different order.
In Economics and Econometrics
- Lucio Sarno
- Glenn D. Rudebusch
- Christian Wagner
- Paul Schneider
- Jing Cynthia Wu
- M. Bauer
- Mark P. Taylor
- Giorgio Valente
In Finance
- Glenn D. Rudebusch
- Jing Cynthia Wu
- Paul Schneider
- M. Bauer
- Lucio Sarno
- Christian Wagner
- Jens H. E. Christensen
- Mark P. Taylor
Citations in the corpus
- Properties of Foreign Exchange Risk Premiums (2012, methodology): “…al. (2010) and Brunnermeier et al. (2008), (ii) countercyclical to the state of the US economy is in line with e.g. Lustig and Verdelhan (2007), De Santis and Fornari (2008), and Lustig et al. (2010), and (iii) driven by traditional exchange rate fundamentals is supported by Engel and West (2005).”
- Predictability of Currency Carry Trades and Asset Pricing Implications (2013, unknown): “In the spirit of Meese and Rogoff (1983), Cutler, Poterba, and Summers (1991), Mark (1995), Kilian and Taylor (2003), Ang and Chen (2010), and Lustig, Roussanov, and Verdelhan (2010), we ask whether our predictors maintain their predictive ability at longer horizons.”
- Term Premia and Inflation Uncertainty: Empirical Evidence from an International Panel Dataset: Comment (2014, background): “…premia, since much theoretical (Campbell and Cochrane 1999; Bansal and Yaron 2004; Wachter 2006) and empirical research (Harvey 1989; Cochrane and Piazzesi 2005; Lustig and Verdelhan 2007; Lustig, Roussanov, and Verdelhan 2010) support the view that term premia evolve in a countercyclical fashion.”
- Variance Risk Premiums and the Forward Premium Puzzle (2012, unknown): “…exposures to the common factor is acknowledged in Gourio, Siemer, and Verdelhan (2012); Farhi, Fraiberger, Gabaix, Ranciere, and Verdelhan (2009); Backus, Foresi, and Telmer (2001) and Lustig, Roussanov, and Verdelhan (2011); and in a no-arbitrage setting in Lustig, Roussanov, and Verdelhan (2012).”
- Forward and Spot Exchange Rates in a Multi-Currency World* (2018, unknown): “Following Lustig et al. (2011), we drop South Africa 8/1985 and Turkey before 11/2001 due to large covered interest parity departures we could not verify.”
- Predictability of Returns and Cash Flows (2011, unknown): “Working in a Bayesian setting, Pastor and Stambaugh (2001) estimate structural breaks in the equity premium, while Dangl and Halling (2009) and Johannes, Korteweg, and Polson (2008) consider drifting regression coefficients to address parameter instability. Third, financial ratios have poor out-of-s”