Controlled Currency Regime and Pricing of Exchange Rate Risk: Evidence From China

Forthcoming in Journal of Accounting, Auditing & Finance

61 Pages Posted: 26 Dec 2018

See all articles by Xiuping Hua

Xiuping Hua

University of Nottingham Ningbo China - Business School

Wei Huang

University of Hawaii at Manoa - Shidler College of Business

Ying Jiang

The University of Nottingham Ningbo, China

Date Written: June 7, 2018

Abstract

Extant research finds that exchange rate pegs do little to reduce firms’ exposure to exchange rate risk in emerging markets. We study whether exchange rate risk exposures under a pegged/controlled floating currency regime can be priced in asset returns using unique data on exchange rate regime changes in China. As the only currency in the basket of IMF’s Special Drawing Rights that is not fully market driven for its exchange rate formation, the Chinese RMB offers an ideal case to study the pricing of exchange rate risk in pegged and controlled floating regimes. We find a negative stock market reaction to the announcement of changes from a pegged exchange rate to a controlled floating regime, suggesting a negative stock valuation effect of expectation of increased exchange rate exposure to currency appreciation. Under the managed floating exchange rate regime, the volatilities of accounting performance measures are significantly greater for the companies with stronger exposure to foreign exchange rate risk. More importantly, foreign exchange rate risk is priced in equity returns under the controlled floating regime but not under the strictly pegged regime. Furthermore, the pricing is stronger for firms with higher sensitivity to economic channels transmitting the exchange rate risk exposure to risk premiums. Overall, our results suggest that currency hedging for a multinational corporation with foreign exchange exposure is warranted under a controlled floating currency regime.

Keywords: Exchange Rate Risk, Asset Returns, Equity Risk Premium, Foreign Exchange Rate Risk Hedging, Chinese Currency Risk

JEL Classification: F30, F31, G12

Suggested Citation

Hua, Xiuping and Huang, Wei and Jiang, Ying, Controlled Currency Regime and Pricing of Exchange Rate Risk: Evidence From China (June 7, 2018). Forthcoming in Journal of Accounting, Auditing & Finance. Available at SSRN: https://ssrn.com/abstract=3297347

Xiuping Hua

University of Nottingham Ningbo China - Business School ( email )

199 Taikang East Road
University Park
Ningbo, 315100
China
+86-574-88180305 (Phone)
+86-574-88180125 (Fax)

Wei Huang (Contact Author)

University of Hawaii at Manoa - Shidler College of Business ( email )

2404 Maile Way
Honolulu, HI 96822
United States
808-956-7679 (Phone)
808-956-9887 (Fax)

Ying Jiang

The University of Nottingham Ningbo, China ( email )

199 Taikang East Road
China

Register to save articles to
your library

Register

Paper statistics

Downloads
12
Abstract Views
90
PlumX Metrics