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Aggregate consumption growth risk explains why low interest rate currencies do not appreciate as much as the interest rate differential and why high interest rate currencies do not depreciate as much as the interest rate differential. Domestic investors earn negative excess returns on low interest rate currency portfolios and positive excess returns on high interest rate currency portfolios. Because high interest rate currencies depreciate on average when domestic consumption growth is low and low interest rate currencies appreciate under the same conditions, low interest rate currencies provide domestic investors with a hedge against domestic aggregate consumption growth risk.

Aggregate consumption growth risk explains why low interest rate currencies do not appreciate as much as the interest rate differential and why high interest rate currencies do not depreciate as much as the interest rate differential. Domestic investors earn negative excess returns on low interest rate currency portfolios and positive excess returns on high interest rate currency portfolios. Because high interest rate currencies depreciate on average when domestic consumption growth is low and low interest rate currencies appreciate under the same conditions, low interest rate currencies provide domestic investors with a hedge against domestic aggregate consumption growth risk. (JEL E21, E43, F31, G11)

In a model with housing collateral, the ratio of housing wealth to human wealth shifts the conditional distribution of asset prices and consumption growth. A decrease in house prices reduces the collateral value of housing, increases household exposure to idiosyncratic risk, and increases the conditional market price of risk. Using aggregate data for the US, we find that a decrease in the ratio of housing wealth to human wealth predicts higher returns on stocks. Conditional on this ratio, the covariance of returns with aggregate risk factors explains eighty percent of the cross-sectional variation in annual size and book-to-market portfolio returns. Keywords: Asset Pricing, Risk Sharing. * First version August 2002. The authors thank Thomas Sargent, Robert Hall, Dirk Krueger, Steven Grenadier, Narayana Kocherlakota, Andrew Abel, Fernando Alvarez, Andrew Atkeson, Patrick Bajari, John Cochrane, Timothey Cogley, Harold Cole, Marco Del Negro, Lars Peter Hansen, John Heaton, Christobal Huneuus, Kenneth Judd, Sydney Ludvigson, Sergei Morozov, Lee Ohanian, Monika Piazzesi, Luigi Pistaferri, Esteban Rossi-Hansberg, Kenneth Singleton, Laura Veldkamp, Pierre-Olivier Weill, Amir Yaron, the editor Robert Stambaugh and an anonymous referee. We also benefited from comments from seminar participants at

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