Looking Under the Hood of Commodity Currency Predictability
85 Pages Posted: 14 Sep 2023
Date Written: June 04, 2024
Abstract
This paper revisits the exchange rate predictability of commodity currencies. We identify currencies with significant contemporaneous exposure to commodity prices, exploring both net commodity exporters and importers. For these currencies, a country's exchange rate fluctuations can be predicted by changes in its commodity export/import prices, both in-sample and out-of-sample. However, this predictability is short-lived, concentrated in periods of high uncertainty, and observed exclusively among less traded currencies. These findings align with a gradual information diffusion mechanism, suggesting a temporal market inefficiency rather than a risk-based explanation. Our work offers new insights into the source of carry trade predictability.
Keywords: Exchange rates, carry trade, predictability, commodities, information
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