Foreign Currency Denominated Borrowing in the Absence of Operating Incentives
Matthew R. McBrady
University of Virginia - Darden School of Business
Michael J. Schill
University of Virginia - Darden Graduate School of Business Administration
August 9, 2006
Darden Business School Working Paper No. 07-03
It is well known that corporations issue foreign currency-denominated debt to hedge foreign currency cash flows with offsetting interest payments. We test an alternative "opportunistic" motive for foreign currency-denominated borrowing. We do so by constructing a comprehensive sample of foreign currency-denominated bonds issued by sovereign government and agency issuers all of whose cash inflows are exclusively denominated in their respective local currencies. We find strong and consistent evidence that the prevailing covered and uncovered interest yields across currencies matter to these borrowers in choosing the currency in which to denominate their international debt. We estimate the average gains to opportunistic covered yield borrowing at 4 to 18 basis points. Interestingly, we also find that the average bond offering in our sample precedes a large and beneficial depreciation in the selected currency in the year following the issuance. These results support what has been a frequent conjecture in the foreign debt market.
Number of Pages in PDF File: 56
Keywords: Foreign debt, Interest rate parity, Timing, Foreign currency
JEL Classification: G14, G32, F36working papers series
Date posted: August 23, 2006
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