The Best Strategies for FX Hedging

49 Pages Posted: 12 Dec 2024 Last revised: 9 Feb 2025

See all articles by Pedro Castro

Pedro Castro

Man Group plc

Carl Hamill

Man AHL

John Harber

Man AHL

Campbell R. Harvey

Duke University - Fuqua School of Business; National Bureau of Economic Research (NBER)

Otto Van Hemert

Man AHL

Date Written: February 09, 2025

Abstract

The question of whether, when, and how to hedge foreign exchange risk has been a vexing one for investors since the end of the Bretton Woods system in 1973. Our study provides a comprehensive empirical analysis of dynamic FX hedging strategies over several decades, examining various domestic and foreign currency pairs. While traditional approaches often focus on risk mitigation, we explore the broader implications for expected returns, highlighting the interplay between hedging and strategies such as the carry trade. Our findings reveal that incorporating additional factors-such as trend (12-month FX return), value (deviation from purchasing power parity), and carry (interest rate differential) - into hedging decisions delivers significant portfolio benefits. By adopting a dynamic, active approach to FX hedging, investors can enhance returns and manage risk more effectively than with static hedged or unhedged strategies.

Keywords: FX, Hedging, Carry, Value, Momentum, Trend, Purchasing Power Parity, Active Investing, Dynamic Hedging

JEL Classification: G11, G12, G15, G32, F31

Suggested Citation

Castro, Pedro and Hamill, Carl and Harber, John and Harvey, Campbell R. and van Hemert, Otto, The Best Strategies for FX Hedging (February 09, 2025). Available at SSRN: https://ssrn.com/abstract=5047797 or http://dx.doi.org/10.2139/ssrn.5047797

Pedro Castro

Man Group plc ( email )

Sugar Quay
Lower Thames Street
London, EC3R 6DU
United Kingdom

Carl Hamill

Man AHL ( email )

Riverbank House
2 Swan Lane
London, EC4R 3AD
United Kingdom

John Harber

Man AHL ( email )

Riverbank House
2 Swan Lane
London, EC4R 3AD
United Kingdom

Campbell R. Harvey (Contact Author)

Duke University - Fuqua School of Business ( email )

Box 90120
Durham, NC 27708-0120
United States
919-660-7768 (Phone)

HOME PAGE: http://www.duke.edu/~charvey

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Otto Van Hemert

Man AHL ( email )

Riverbank House
2 Swan Lane
London, EC4R 3AD
United Kingdom

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