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Risk-premia, carry-trade dynamics, and economic value of currency speculation

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  • Wagner, Christian

Abstract

In this paper, we derive the dynamics and assess the economic value of currency speculation by formalizing the concept of a trader inaction range. We show that exchange rate returns comprise a time-varying risk-premium and that uncovered interest parity (UIP) holds in a speculative sense. The often-cited ‘forward bias puzzle’ originates from the omission of the risk-premium in standard UIP tests. Consistent with its popularity among market professionals, the carry-trade strategy can be rationalized as it systematically collects risk-premia, however, the economic value generated by bilateral carry-trades is limited.

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  • Wagner, Christian, 2012. "Risk-premia, carry-trade dynamics, and economic value of currency speculation," Journal of International Money and Finance, Elsevier, vol. 31(5), pages 1195-1219.
    • Handle: RePEc:eee:jimfin:v:31:y:2012:i:5:p:1195-1219
    DOI: 10.1016/j.jimonfin.2012.01.013
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    4. Norman C. Miller, 2014. "Exchange Rate Economics," Books, Edward Elgar Publishing, number 14981.

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    More about this item

    Keywords

    Exchange rates; Uncovered interest parity; Risk-premia; Carry-trade; Economic value;
    All these keywords.

    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange

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