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Conditional currency hedging

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  • Melk C. Bucher

Abstract

I propose a simple and robust approach to hedge currency risk that can be directly applied by international investors in diverse asset classes. Compared to current mean‐variance approaches, it is robust to overfitting and thus better anticipates risk‐minimizing currency positions for global equity, bond, and commodity investors out of sample. Furthermore, correlations among currencies, equities, and commodities can be predicted by lagged implied foreign exchange volatility. This allows investors to dynamically adjust their hedges, resulting in significantly lower risk compared to other hedging alternatives while maintaining or even improving Sharpe ratio, particularly during crisis periods.

Suggested Citation

  • Melk C. Bucher, 2020. "Conditional currency hedging," Financial Management, Financial Management Association International, vol. 49(4), pages 897-923, December.
    • Handle: RePEc:bla:finmgt:v:49:y:2020:i:4:p:897-923
    DOI: 10.1111/fima.12287
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    References listed on IDEAS

    as
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    6. repec:dau:papers:123456789/14735 is not listed on IDEAS
    7. Christiansen, Charlotte & Ranaldo, Angelo & Söderlind, Paul, 2011. "The Time-Varying Systematic Risk of Carry Trade Strategies," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 46(4), pages 1107-1125, August.
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    10. Bertrand Maillet & Sessi Tokpavi & Benoît Vaucher, 2015. "Global minimum variance portfolio optimisation under some model risk : A robust regression-based approach," Post-Print hal-02312329, HAL.
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