Identifying Portfolio-Based Risk Factors in Foreign Exchange Markets

24 Pages Posted: 27 Feb 2018

See all articles by Klaus Grobys

Klaus Grobys

University of Vaasa; University of Jyväskyla

Date Written: February 27, 2018

Abstract

This paper shows that a link between the conditional mean and conditional volatility of any factor-mimicking portfolio in the foreign exchange (FX) market must exist if the proposed portfolio-based currency factor is priced and the pricing kernel has a linear factor structure. Thereby, this paper tests whether the carry risk factor and currency momentum are priced risk factors. Surprisingly, the carry risk factor does not meet the necessary conditions consistent with being a priced risk factor, whereas currency momentum indeed meets those criteria. The findings also indicate that the relation between the conditional mean and conditional risk is moreover economically reasonable for the currency momentum portfolio.

Keywords: Asset Pricing, Carry Risk Factor, Currency Momentum, Foreign Exchange Market

JEL Classification: G12, G14

Suggested Citation

Grobys, Klaus, Identifying Portfolio-Based Risk Factors in Foreign Exchange Markets (February 27, 2018). Available at SSRN: https://ssrn.com/abstract=3130802 or http://dx.doi.org/10.2139/ssrn.3130802

Klaus Grobys (Contact Author)

University of Vaasa ( email )

P.O. Box 700
Wolffintie 34
FIN-65101 Vaasa
Finland

University of Jyväskyla ( email )

Jyväskyla
Finland

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