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Leveraged carry trade portfolios

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Author Info
Darvas, Zsolt

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Abstract

Studying all possible pairs of 11 major currencies and 11 portfolios in 1976-2008 we show that, when there is no leverage, carry trade is significantly profitable for most currency pairs and portfolios. Positive returns do not diminish in time providing a strong case against the hypothesis of uncovered interest rate parity. We explain these findings with the leveraged nature of carry trade: leverage may increase profitability but it materially increases downside risk. We argue that market inefficiency is related to the level of leverage.

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Publisher Info
Article provided by Elsevier in its journal Journal of Banking & Finance.

Volume (Year): 33 (2009)
Issue (Month): 5 (May)
Pages: 944-957
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Handle: RePEc:eee:jbfina:v:33:y:2009:i:5:p:944-957

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Related research
Keywords: Bootstrap Currency market Diversification Leverage Uncovered interest rate parity;

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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Villanueva, O. Miguel, 2007. "Forecasting Currency Excess Returns: Can the Forward Bias Be Exploited?," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 42(04), pages 963-990, December. [Downloadable!]
  2. Kuntara Pukthuanthong & Lee R. Thomas III & Carlos Bazan, 2007. "Random walk currency futures profits revisited," International Journal of Managerial Finance, Emerald Group Publishing, vol. 3(3), pages 263-286, July. [Downloadable!] (restricted)
  3. Halbert White, 2000. "A Reality Check for Data Snooping," Econometrica, Econometric Society, vol. 68(5), pages 1097-1126, September.
  4. Emmanuel Farhi & Xavier Gabaix, 2008. "Rare Disasters and Exchange Rates," NBER Working Papers 13805, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  5. Olson, Dennis, 2004. "Have trading rule profits in the currency markets declined over time?," Journal of Banking & Finance, Elsevier, vol. 28(1), pages 85-105, January. [Downloadable!] (restricted)
  6. Gabriele Galati & Alexandra Heath & Patrick McGuire, 2007. "Evidence of carry trade activity," BIS Quarterly Review, Bank for International Settlements, September. [Downloadable!]
  7. Joseph E. Gagnon & Alain P. Chaboud, 2007. "What can the data tell us about carry trades in Japanese yen?," International Finance Discussion Papers 899, Board of Governors of the Federal Reserve System (U.S.). [Downloadable!]
  8. A. Craig Burnside & Martin S. Eichenbaum & Isaac Kleshchelski & Sergio Rebelo, 2008. "Do Peso Problems Explain the Returns to the Carry Trade?," NBER Working Papers 14054, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  9. Christian Dunis & Jia Miao, 2007. "Trading foreign exchange portfolios with volatility filters: the carry model revisited," Applied Financial Economics, Taylor and Francis Journals, vol. 17(3), pages 249-255. [Downloadable!] (restricted)
  10. Longstaff, Francis A., 2000. "The term structure of very short-term rates: New evidence for the expectations hypothesis," Journal of Financial Economics, Elsevier, vol. 58(3), pages 397-415, December. [Downloadable!] (restricted)
  11. Fama, Eugene F., 1984. "Forward and spot exchange rates," Journal of Monetary Economics, Elsevier, vol. 14(3), pages 319-338, November. [Downloadable!] (restricted)
  12. Chris Becker & Kristina Clifton, 2007. "Hedge fund activity and carry trades," CGFS Papers chapters, in: Bank for International Settlements (ed.), Research on global financial stability: the use of BIS international financial statistics, volume 29, pages 156-175 Bank for International Settlements. [Downloadable!]
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