Discussion paper

DP15337 The Global Factor Structure of Exchange Rates

We provide a model-free framework to study the global factor structure of exchange rates. To this end, we propose a new methodology to estimate international stochastic discount factors (SDFs) that jointly price cross-sections of international assets, such as stocks, bonds, and
currencies, in the presence of frictions. We theoretically establish a two-factor representation for the cross-section of international SDFs, consisting of one global and one local factor, which is independent of the currency denomination. We show that our two-factor specification prices a large cross-section of international asset returns, not just in- but also out-of-sample with R2s of up to 80%.


Korsaye, S, F Trojani and A Vedolin (2020), ‘DP15337 The Global Factor Structure of Exchange Rates‘, CEPR Discussion Paper No. 15337. CEPR Press, Paris & London. https://cepr.org/publications/dp15337