The Share of Systematic Variation in Bilateral Exchange Rates
Massachusetts Institute of Technology (MIT) - Sloan School of Management; National Bureau of Economic Research (NBER)
March 13, 2012
AFA 2013 San Diego Meetings Paper
Two economically motivated factors account for 20% to 90% of the daily, monthly, quarterly, and annual exchange rate movements. These two factors -- carry and dollar -- are risk factors: the former accounts for the cross-section of interest rate-sorted currency returns, while the latter accounts for a novel cross-section of dollar beta-sorted currency returns. The different shares of systematic risk across currencies are related to financial and macroeconomic measures of world integration. They point to large shares of global shocks in the dynamics of exchange rates, as well as large differences across countries. The results offer new challenges for international macroeconomics and finance models.
Number of Pages in PDF File: 54
Keywords: exchange rates, forward premium puzzle, risk premium
JEL Classification: F31
Date posted: September 19, 2011 ; Last revised: November 7, 2014
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