Common Risk Factors in Currency Markets

Discussion of “The Swiss Franc Exchange Rate and Deviations from UIP: Global versus Domestic Factors” by Mathias Hoffmann and Rahel Suter

“…In a nutshell, Lustig, Roussanov and Verdelhan (2009) arrive at results in which that is indeed the case when the USD is the funding currency. Hoffmann and Suter suggest similar conclusions, albeit with some reservations, for the CHF.…”

“…The thread in these works is that excess returns from carry trade portfolios across currencies can be explained by a version of the consumption-based capital asset pricing model (C-CAPM). Hoffmann and Suter regrettably leave it there, and go on to reproduce the related econometric methodology proposed in Lustig, Roussanov and Verdelhan (2009). The following section aims to bridge the gap in intuition and theoretical motivation left open by Hoffmann and Suter, without going into the details of the relatively intricate apparatus set up by the above papers (which I will call the Verdelhan et al literature).…”

“…Note that Lustig, Roussanov and Verdelhan (2009) work with 34 currencies, an already slim cross section to satisfy the above simplification. Given this concern, it is unlikely that Hoffmann and Suter are able to identify the global shock with precision.…”

Common factors and the exchange rate: results from the Brazilian case

“…Hence, we include the high yield spread in the analysis. Lustig et al (2011) found that a 'slope' effect account for more of the cross-sectional variation in average excess returns between high and low interest rate currencies. They relate these factors to global equity market volatility.…”

Upside and Downside Risk Exposures of Currency Carry Trades via Tail Dependence

“…Our empirical analysis consists of daily exchange rate data for a set of 34 currency exchange rates relative to the USD, as in [23] We have considered daily settlement prices for each currency exchange rate as well as the daily settlement price for the associated 1 month forward contract. We utilise the same dataset (albeit starting in 1989 rather than 1983 and running up until January 2014) as studied in [20,23] in order to replicate their portfolio returns without tail dependence risk adjustments. Due to differing market closing days, e.g.…”