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Currency hedging for international stock portfolios : a general approach

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Author Info
Roon, F.A. de
Nijman, T.E.
Werker, B.J.M. (Tilburg University, Center for Economic Research)

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Abstract

This paper tests whether hedging currency risk improves the performance of international stock portfolios. We use a generalized performance measure which allows for investordependencies such as different utility functions and the presence of nontraded risks. In addition we show that an auxiliary regression, similar to the Jensen regression, provides a wealth of information about the optimal portfolio holdings for investors for the non mean-variance case. This is analogous to the information provided by the Jensen regression about optimal portfolio holdings for the mean-variance case. Our empirical results show that static hedging with currency forwards does not lead to improvements in portfolio performance for a US investor that holds a stock portfolio from the G5 countries. On the other hand, hedges that are conditional on the current interest rate spread do lead to significant performance improvements. Also, when an investor has a substantial exogenous exposure to one of the currencies, currency hedging clearly improves his portfolio performance. While these results hold for investors with power utility as well as with mean-variance utility functions, the optimal hedge ratios for these investors are different.

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Paper provided by Tilburg University, Center for Economic Research in its series Discussion Paper with number 123.

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Date of creation: 1999
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Handle: RePEc:dgr:kubcen:1999123

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G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Investment Policy

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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. Stoll, Hans R., 1979. "Commodity Futures and Spot Price Determination and Hedging in Capital Market Equilibrium," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 14(04), pages 873-894, November. [Downloadable!]
    Other versions:
  2. Hansen, Lars Peter & Jagannathan, Ravi, 1991. "Implications of Security Market Data for Models of Dynamic Economies," Journal of Political Economy, University of Chicago Press, vol. 99(2), pages 225-62, April. [Downloadable!] (restricted)
    Other versions:
  3. Ferson, Wayne E & Foerster, Stephen R & Keim, Donald B, 1993. " General Tests of Latent Variable Models and Mean-Variance Spanning," Journal of Finance, American Finance Association, vol. 48(1), pages 131-56, March. [Downloadable!] (restricted)
  4. Hirshleifer, David, 1989. "Determinants of Hedging and Risk Premia in Commodity Futures Markets," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 24(03), pages 313-331, September. [Downloadable!]
  5. Carter, Colin A & Rausser, Gordon C & Schmitz, Andrew, 1983. "Efficient Asset Portfolios and the Theory of Normal Backwardation," Journal of Political Economy, University of Chicago Press, vol. 91(2), pages 319-31, April. [Downloadable!] (restricted)
  6. Cumby, Robert E & Glen, Jack D, 1990. " Evaluating the Performance of International Mutual Funds," Journal of Finance, American Finance Association, vol. 45(2), pages 497-521, June. [Downloadable!] (restricted)
  7. Fama, Eugene F., 1984. "Forward and spot exchange rates," Journal of Monetary Economics, Elsevier, vol. 14(3), pages 319-338, November. [Downloadable!] (restricted)
  8. Glen, Jack & Jorion, Philippe, 1993. " Currency Hedging for International Portfolios," Journal of Finance, American Finance Association, vol. 48(5), pages 1865-86, December. [Downloadable!] (restricted)
  9. David Hirshleifer, 1988. "Residual Risk, Trading Costs, and Commodity Futures Risk Premia," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 1(2), pages 173-193. [Downloadable!] (restricted)
  10. Huberman, Gur & Kandel, Shmuel, 1987. " Mean-Variance Spanning," Journal of Finance, American Finance Association, vol. 42(4), pages 873-88, September. [Downloadable!] (restricted)
  11. Chen, Zhiwu & Knez, Peter J, 1996. "Portfolio Performance Measurement: Theory and Applications," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 9(2), pages 511-55. [Downloadable!] (restricted)
  12. Frans A. de Roon & Theo E. Nijman & Chris Veld, 2000. "Hedging Pressure Effects in Futures Markets," Journal of Finance, American Finance Association, vol. 55(3), pages 1437-1456, 06. [Downloadable!] (restricted)
  13. Chang, Eric C, 1985. " Returns to Speculators and the Theory of Normal Backwardation," Journal of Finance, American Finance Association, vol. 40(1), pages 193-208, March. [Downloadable!] (restricted)
  14. Bessembinder, Hendrik, 1992. "Systematic Risk, Hedging Pressure, and Risk Premiums in Futures Markets," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 5(4), pages 637-67. [Downloadable!] (restricted)
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(explanations, 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. Nijman, T. & Swinkels, L., 2003. "Strategic and tactical allocation to commodities for retirement savings schemes," Discussion Paper 20, Tilburg University, Center for Economic Research. [Downloadable!]
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