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Currency Momentum Strategies

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  • 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% 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 over-reaction. 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 which prevent momentum returns from being easily exploitable in currency markets.

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Bibliographic Info

Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 8747.

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Date of creation: Jan 2012
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Handle: RePEc:cpr:ceprdp:8747

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Keywords: Carry Trades; Idiosyncratic Volatility; Limits to Arbitrage; Momentum Returns;

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Cited by:
  1. Malliaris, A.G. & Malliaris, Mary, 2011. "Are foreign currency markets interdependent? evidence from data mining technologies," MPRA Paper 35261, University Library of Munich, Germany.
  2. 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.
  3. Andrew Clare & James Seaton & Peter N. Smith & Stephen Thomas, 2012. "The Trend is Our Friend: Risk Parity, Momentum and Trend Following in Global Asset Allocation," Discussion Papers 12/25, Department of Economics, University of York.
  4. Christopher J. Neely & Paul A. Weller, 2011. "Lessons from the evolution of foreign exchange trading strategies," Working Papers 2011-021, Federal Reserve Bank of St. Louis.
  5. Jacob Gyntelberg & Andreas Schrimpf, 2011. "FX strategies in periods of distress," BIS Quarterly Review, Bank for International Settlements, December.
  6. Travis J. Berge, 2011. "Forecasting disconnected exchange rates," Research Working Paper RWP 11-12, Federal Reserve Bank of Kansas City.
  7. 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.
  8. 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.
  9. 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.
  10. Federico Nucera & Giorgio Valente, 2013. "Carry Trades and the Performance of Currency Hedge Funds," Working Papers 032013, Hong Kong Institute for Monetary Research.
  11. Karnaukh, Nina & Ranaldo, Angelo & Söderlind, Paul, 2013. "Understanding FX Liquidity," Working Papers on Finance 1315, University of St. Gallen, School of Finance.
  12. Cenedese, Gino & Sarno, Lucio & Tsiakas, Ilias, 2014. "Foreign exchange risk and the predictability of carry trade returns," Journal of Banking & Finance, Elsevier, vol. 42(C), pages 302-313.
  13. Victoria Galsband & Thomas Nitschka, 2013. "Currency excess returns and global downside market risk," Working Papers 2013-07, Swiss National Bank.
  14. 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.
  15. Raza, Ahmad & Marshall, Ben R. & Visaltanachoti, Nuttawat, 2014. "Is there momentum or reversal in weekly currency returns?," Journal of International Money and Finance, Elsevier, vol. 45(C), pages 38-60.

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