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Leveraged Carry Trade Portfolios

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  • Zsolt Darvas

    ()
    (Institute of Economics - Hungarian Academy of Sciences)

Abstract

Studying all possible pairs of eleven major currencies and eleven 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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Bibliographic Info

Paper provided by Institute of Economics, Centre for Economic and Regional Studies, Hungarian Academy of Sciences in its series IEHAS Discussion Papers with number 0822.

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Length: 44 pages
Date of creation: Oct 2008
Date of revision:
Handle: RePEc:has:discpr:0822

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

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  1. 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.
  2. Nick Roussanov & Adrien Verdelhan & Hanno Lustig, 2008. "Common Risk Factors in Currency Markets," 2008 Meeting Papers 711, Society for Economic Dynamics.
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  10. 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.
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  15. 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.
  16. 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.).
  17. 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.
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