Currency Premia and Global Imbalances

Winner of the Kepos Capital Award for the Best Paper on Investments at the 2013 WFA Meeting

28th Australasian Finance and Banking Conference

72 Pages Posted: 20 Jun 2013 Last revised: 18 Oct 2017

See all articles by Pasquale Della Corte

Pasquale Della Corte

Imperial College Business School; Centre for Economic Policy Research (CEPR)

Steven Riddiough

University of Toronto

Lucio Sarno

University of Cambridge - Judge Business School; Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 2 versions of this paper

Date Written: May 18, 2016

Abstract

We show that a global imbalance risk factor that captures the spread in countries' external imbalances and their propensity to issue external liabilities in foreign currency explains the cross-sectional variation in currency excess returns. The economic intuition is simple: net debtor countries offer a currency risk premium to compensate investors willing to finance negative external imbalances because their currencies depreciate in bad times. This mechanism is consistent with exchange rate theory based on capital flows in imperfect financial markets. We also find that the global imbalance factor is priced in cross sections of other major asset markets.

Keywords: Currency Risk Premium; Global Imbalances; Foreign Exchange Excess Returns; Carry Trade

JEL Classification: F31; F37; G12; G15

Suggested Citation

Della Corte, Pasquale and Riddiough, Steven and Sarno, Lucio, Currency Premia and Global Imbalances (May 18, 2016). Winner of the Kepos Capital Award for the Best Paper on Investments at the 2013 WFA Meeting, 28th Australasian Finance and Banking Conference, Available at SSRN: https://ssrn.com/abstract=2280952 or http://dx.doi.org/10.2139/ssrn.2280952

Pasquale Della Corte

Imperial College Business School ( email )

South Kensington Campus
Exhibition Road
London, SW7 2AZ
United Kingdom
+44(0)20 759 49331 (Phone)

HOME PAGE: http://sites.google.com/view/pasqualedellacorte

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Steven Riddiough (Contact Author)

University of Toronto ( email )

Toronto, Ontario M5S 3G8
Canada

HOME PAGE: http://www.stevenriddiough.com

Lucio Sarno

University of Cambridge - Judge Business School ( email )

Trumpington Street
Cambridge, CB2 1AG
United Kingdom

Centre for Economic Policy Research (CEPR)

London
United Kingdom

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