Pricing Risks Across Currency Denominations

• 成果类型: Article
• 署名作者: Maurer, Thomas A.; Thuy-Duong To; Ngoc-Khanh Tran
• 署名单位: University of Hong Kong; University of New South Wales Sydney; Washington University (WUSTL)
• 刊物名称: MANAGEMENT SCIENCE
• ISSN/ISSBN: 0025-1909
• DOI: 10.1287/mnsc.2018.3109
• 发表日期: 2019
• 页码: 5308-5336
• 关键词: International finance; FX; Currency risk; Carry trade; stochastic discount factor (SDF); permanent; transitory; principal component; International stock markets; macroeconomic fundamental; financial stress indicator

摘要

We use principal component analysis on 55 bilateral exchange rates of 11 developed currencies to identify two important global risk sources in foreign exchange (FX) markets. The risk sources are related to Carry and Dollar but are not spanned by these factors. We estimate the market prices associated with the two risk sources in the cross-section of FX market returns and construct FX market-implied country-specific stochastic discount factors (SDFs). The SDF volatilities are related to interest rates and expected carry trade returns in the cross-section. The SDFs price international stock returns and are related to important financial stress indicators and macroeconomic fundamentals. The first principal risk is associated with the Treasury-EuroDollar (TED) spread, quantities measuring volatility, tail and contagion risks, and future economic growth. It earns a relatively small implied Sharpe ratio. The second principal risk is associated with the default and term spreads and quantities capturing volatility and illiquidity risks. It further correlates with future changes in the long-term interest rate and earns a large implied Sharpe ratio.