Commodity Trade and the Carry Trade: A Tale of Two Countries

Ready, Robert; Roussanov, Nikolai; Ward, Colin R.

doi:10.1111/jofi.12546

Cited by 129 publications

(20 citation statements)

References 98 publications

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“…In finite samples, however, our countries feature substantial heterogeneity, consistent with the empirical investigation of Lustig, Roussanov, and Verdelhan (2011) and Hassan and Mano (2014). These heterogeneous loadings are a reducedform way of capturing a mix of fundamental differences across countries, such as size (Hassan (2013)), commodity intensity (Ready, Roussanov, and Ward (2017)), monetary policy rules (Backus et al (2010)), and financial development (Maggiori (2017)).…”

supporting

confidence: 68%

“…6 Second, after simulating a history of heterogeneous exposure shocks ( β,z i,t ), we are able to study the characteristics of a cross section of countries that remain substantially heterogeneous in finite samples. We think of the β z i,t coefficients as devices to capture the heterogeneity documented by Lustig, Roussanov, and Verdelhan (2011), Backus et al (2010), Ready, Roussanov, and Ward (2017), and Hassan and Mano (2014) in a parsimonious, reduced-form manner.…”

Section: Heterogeneous Exposurementioning

confidence: 99%

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Currency Risk Factors in a Recursive Multicountry Economy

Colacito¹,

Croce²,

Gavazzoni³

et al. 2018

The Journal of Finance

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106

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Focusing on the 10 most traded currencies, we provide empirical evidence regarding a significant heterogeneous exposure to global growth news shocks. We incorporate this empirical fact in a frictionless risk‐sharing model with recursive preferences, multiple countries, and multiple consumption goods whose supply features both global and local short‐ and long‐run shocks. Since news shocks are priced, heterogeneous exposure to long‐lasting global growth shocks results in a relevant reallocation of international resources and currency adjustments. Our unified framework replicates the properties of the HML‐FX and HML‐NFA carry‐trade strategies studied by Lustig, Roussanov, and Verdelhan and Della Corte, Riddiough, and Sarno.

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supporting

confidence: 68%

Section: Heterogeneous Exposurementioning

confidence: 99%

Currency Risk Factors in a Recursive Multicountry Economy

Colacito¹,

Croce²,

Gavazzoni³

et al. 2018

The Journal of Finance

Self Cite

106

View full text Add to dashboard Cite

show abstract

“…Daily spot and forward rates are from Barclays and Reuters. 5 The sample period is 1988 to 2016 following Ready, Roussanov, and Ward (2017). Table B.I lists the 39 countries and the dates of their corresponding data availability.…”

Section: A Data Sourcesmentioning

confidence: 99%

“…Hassan (2013) shows that currencies of larger countries hedge investors against greater consumption risk and therefore have lower currency risk premia and interest rates. Ready, Roussanov, and Ward (2017) solve and empirically test a model in which countries that produce commodity goods are distinct from countries that produce final goods. In their model, currencies of commodity-producing countries depreciate in bad times, increasing their currency risk premia.…”

mentioning

confidence: 99%

Trade Network Centrality and Currency Risk Premia

Richmond¹

2019

The Journal of Finance

149

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I uncover an economic source of exposure to global risk that drives international asset prices. Countries that are more central in the global trade network have lower interest rates and currency risk premia. To explain these findings, I present a general equilibrium model in which central countries' consumption growth is more exposed to global consumption growth shocks. This causes the currencies of central countries to appreciate in bad times, resulting in lower interest rates and currency risk premia. Empirically, central countries' consumption growth covaries more with world consumption growth, further validating the proposed mechanism.

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“…Moreover, if these interventions are large enough, that is, if the country manipulating its exchange rate is large relative to the world, its policies will affect interest rates and capital accumulation in other countries, potentially diverting capital accumulation from other countries to itself. Policies that change the variances and covariances of exchange rates should thus, via their effect on in terest 1 Other papers in this literature have studied heterogeneity in the volatility of shocks affecting the nontraded sector (Tran, 2013), factor endowments (Ready, Roussanov, and Ward, 2013;Powers, 2015), risk aversion in combination with country size (Govillot, Rey, and Gourinchas, 2010), and differences in exposure to long-run risk (Colacito et al, 2016). 1 rates and asset returns, affect the allocation of capital across countries.…”

mentioning

confidence: 99%

A Risk-based Theory of Exchange Rate Stabilization

Hassan¹,

Mertens²,

Zhang³

2016

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We propose a novel, risk-based transmission mechanism for the effects of currency manipulation: policies that systematically induce a country's currency to appreciate in bad times lower its risk premium in international markets and, as a result, lower the country's risk-free interest rate and increase domestic capital accumulation and wages. Currency manipulations by large countries also have external effects on foreign interest rates and capital accumulation. Applying this logic to policies that lower the variance of the bilateral exchange rate relative to some target country ("currency stabilization"), we find that a small economy stabilizing its exchange rate relative to a large economy increases domestic capital accumulation and wages. The size of this effect increases with the size of the target economy, offering a potential explanation why the vast majority of currency stabilizations in the data are to the U.S. dollar, the currency of the largest economy in the world. A large economy (such as China) stabilizing its exchange rate relative to a larger economy (such as the U.S.) diverts capital accumulation from the target country to itself, increasing domestic wages, while decreasing wages in the target country. Differences in real interest rates across developed economies are large and persistent; some countries have lower real interest rates than others for decades rather than years. These longlasting differences in interest rates correlate with differences in capital-output ratios across countries, and account for the majority of excess returns on the carry trade, a trading strategy where international investors borrow in low interest rate currencies, such as the Japanese yen, and lend in high interest rate currencies, such as the New Zealand dollar ( Lustig, Roussanov, and Verdelhan, 2011; Hassan and Mano, 2015; Hassan, Mertens, and Zhang, 2015).A growing literature studying these "unconditional" differences in currency returns argues that they may be attributable to heterogeneity in the stochastic properties of exchange rates:Currencies with low interest rates pay lower returns because they tend to appreciate in bad times and depreciate in good times, providing a hedge to international investors and making them a safer investment (Lustig and Verdelhan, 2007;Menkhoff et al., 2013). This literature has explored various potential drivers of heterogeneity of the stochastic properties of countries' exchange rates, ranging from differences in country size (Martin, 2012;Hassan, 2013) and financial development (Maggiori, 2013) to trade centrality (Richmond, 2015) and differential resilience to disaster risk (Farhi and Gabaix, 2015). 1 The common theme across these papers is that whatever makes countries different from each other results in differential sensitivities of their exchange rates to various shocks, such that some currencies tend to appreciate systematically in "bad" states of the world (when the price of traded goods is high). Currencies with this property then pay lower expected returns a...

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Commodity Trade and the Carry Trade: A Tale of Two Countries

Cited by 129 publications

References 98 publications

Currency Risk Factors in a Recursive Multicountry Economy

Currency Risk Factors in a Recursive Multicountry Economy

Trade Network Centrality and Currency Risk Premia

A Risk-based Theory of Exchange Rate Stabilization

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