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Currency momentum strategies

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Author Info

  • Menkhoff, Lukas
  • Sarno, Lucio
  • Schmeling, Maik
  • Schrimpf, Andreas

Abstract

We provide a broad empirical investigation of momentum strategies in the foreign exchange market. We find a significant cross-sectional spread in excess returns of up to 10% per annum (p.a.) between past winner and loser currencies. This spread in excess returns is not explained by traditional risk factors, it is partially explained by transaction costs and shows behavior consistent with investor under- and overreaction. Moreover, cross-sectional currency momentum has very different properties from the widely studied carry trade and is not highly correlated with returns of benchmark technical trading rules. However, there seem to be very effective limits to arbitrage that prevent momentum returns from being easily exploitable in currency markets.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of Financial Economics.

Volume (Year): 106 (2012)
Issue (Month): 3 ()
Pages: 660-684

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Handle: RePEc:eee:jfinec:v:106:y:2012:i:3:p:660-684

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Web page: http://www.elsevier.com/locate/inca/505576

Related research

Keywords: Momentum returns; Limits to arbitrage; Idiosyncratic volatility; Carry trades;

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References

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Cited by:
  1. Dick, Christian D. & Menkhoff, Lukas, 2013. "Exchange rate expectations of chartists and fundamentalists," Journal of Economic Dynamics and Control, Elsevier, vol. 37(7), pages 1362-1383.
  2. Clare, Andrew & Seaton, James & Smith, Peter N. & Thomas, Stephen, 2014. "Trend following, risk parity and momentum in commodity futures," International Review of Financial Analysis, Elsevier, vol. 31(C), pages 1-12.
  3. Federico Nucera & Giorgio Valente, 2013. "Carry Trades and the Performance of Currency Hedge Funds," Working Papers 032013, Hong Kong Institute for Monetary Research.
  4. Neely, Christopher J. & Weller, Paul A., 2013. "Lessons from the evolution of foreign exchange trading strategies," Journal of Banking & Finance, Elsevier, vol. 37(10), pages 3783-3798.
  5. Dagfinn Rime & Andreas Schrimpf, 2013. "The anatomy of the global FX market through the lens of the 2013 Triennial Survey," BIS Quarterly Review, Bank for International Settlements, December.
  6. Andrew Clare & James Seaton & Peter N. Smith & Stephen Thomas, 2013. "The Trend is Our Friend: Risk Parity, Momentum and Trend Following in Global Asset Allocation," CAMA Working Papers 2013-24, Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University.
  7. Travis J. Berge, 2011. "Forecasting disconnected exchange rates," Research Working Paper RWP 11-12, Federal Reserve Bank of Kansas City.
  8. Karnaukh, Nina & Ranaldo, Angelo & Söderlind, Paul, 2013. "Understanding FX Liquidity," Working Papers on Finance 1315, University of St. Gallen, School of Finance.
  9. Tajaddini, Reza & Crack, Timothy Falcon, 2012. "Do momentum-based trading strategies work in emerging currency markets?," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 22(3), pages 521-537.
  10. Jacob Gyntelberg & Andreas Schrimpf, 2011. "FX strategies in periods of distress," BIS Quarterly Review, Bank for International Settlements, December.
  11. Malliaris, A.G. & Malliaris, Mary, 2011. "Are foreign currency markets interdependent? evidence from data mining technologies," MPRA Paper 35261, University Library of Munich, Germany.
  12. ter Ellen, Saskia & Verschoor, Willem F.C. & Zwinkels, Remco C.J., 2013. "Dynamic expectation formation in the foreign exchange market," Journal of International Money and Finance, Elsevier, vol. 37(C), pages 75-97.
  13. Victoria Galsband & Thomas Nitschka, 2013. "Currency excess returns and global downside market risk," Working Papers 2013-07, Swiss National Bank.
  14. Andrew Clare & James Seaton & Peter N. Smith & Stephen Thomas, 2012. "Trend Following, Risk Parity and Momentum in Commodity Futures," Discussion Papers 12/28, Department of Economics, University of York.

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