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On the Risk and Return of the Carry TradeFabian AckermannZurcher Kantonalbank Walt PohlUniversity of Zurich Karl H. SchmeddersSwiss Finance Institute; University of Zurich November 21, 2012 Swiss Finance Institute Research Paper No. 12-36 Abstract: The traditional carry trade has historically been highly profitable, but suffered from crash risk, the proverbial "up by the stairs and down by the elevator.'' This crash risk was realized in dramatic fashion in the wake of the Lehman bankruptcy, when an investor who was long the Australian dollar and short the yen would have lost 22% in October of 2008. In sharp contrast, a dynamic diversified portfolio constructed using mean-variance analysis performs well, even during the crash. A portfolio constructed using mean-variance analysis can identify opportunities that a more heuristic method will not detect. Once sufficiently diversified, the carry trade turns out to have been a surprisingly low-risk strategy over the last 20 years.
Number of Pages in PDF File: 22 Keywords: Currency, carry trade, crash risk JEL Classification: F31, F37, G11, G12 working papers seriesDate posted: December 11, 2012Suggested CitationContact Information
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