Do Dollar-Denominated Emerging Market Corporate Bonds Insure Foreign Exchange Risk?
44 Pages Posted: 10 Jun 2015 Last revised: 12 Jul 2019
Date Written: January 27, 2019
Dollar-denominated emerging market bonds are marketed to investors as a vehicle for gaining exposure to emerging fixed income markets while avoiding exposure to currency risk. However, the development literature suggests that dollarization of debt leads to increased probability of financial distress, which would indirectly expose these securities to exchange rate risk. We empirically examine the exposure of dollar-denominated corporate bonds to exchange rate risk in 14 emerging markets. We find that nearly three-fourths of bonds have yield spreads with statistically significant exposure to innovations in exchange rates, exchange rate volatility, or both. In a reduced-form bond pricing model with default risk, we find economically significant exposures of credit spreads to exchange rates and exchange rate volatility.
Keywords: Emerging market debt, default risk, exchange rate risk
JEL Classification: G12, G15, F31, O16
Suggested Citation: Suggested Citation