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Carry Trades and Tail Risk: Evidence from Commodity Markets

39 Pages Posted: 19 Sep 2017  

Daniele Bianchi

University of Warwick, Warwick Business School

Date Written: September 11, 2017

Abstract

In this paper I document that carry trades in commodity markets are subject to potential large and infrequent losses, that is, tail risk. Also, I show that shocks to carry trades and volatility have persistent tail-specific effects which last from four to twelve weeks ahead. The main empirical results are consistent with existing theoretical models in which carry traders are subject to limited risk capacity and liquidity constraints. In this respect, I provide evidence that money managers, index traders, and more generally non-commercial traders, tend to unwind their net-long futures positions when exposed to deteriorating aggregate financial conditions and increasing market uncertainty. Methodologically, I make use of panel quantile regressions with non-additive fixed effects, which allow to identify the tail-specific effect of carry on the conditional distribution of commodity futures excess returns.

Keywords: Commodity Markets, Carry, Quantile Regressions, Tail Risk, Financial Markets

JEL Classification: G12, G17, E44, C58

Suggested Citation

Bianchi, Daniele, Carry Trades and Tail Risk: Evidence from Commodity Markets (September 11, 2017). Available at SSRN: https://ssrn.com/abstract=3035453

Daniele Bianchi (Contact Author)

University of Warwick, Warwick Business School ( email )

Gibbet Hill Rd
Coventry, CV4 7AL
Great Britain

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