DP7345 The Time-Varying Systematic Risk of Carry Trade Strategies
|Author(s):||Charlotte Christiansen, Angelo Ranaldo, Paul Söderlind|
|Publication Date:||June 2009|
|Keyword(s):||carry trade, factor model, smooth transition regression, time-varying betas|
|JEL(s):||F31, G11, G15|
|Programme Areas:||International Macroeconomics|
|Link to this Page:||cepr.org/active/publications/discussion_papers/dp.php?dpno=7345|
This paper suggests a factor model for carry trade strategies where the regression coefficients are allowed to depend on market volatility and liquidity. Empirical results on daily data from 1995 to 2008 show that a typical carry trade strategy has much higher exposure to the stock market and also more mean reversion in volatile periods - and that FX market volatility is a priced risk factor. The findings are robust to various extensions, including using more currencies and other proxies for volatility and liquidity (VIX, TED and a bid-ask spread).