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Foreign Currency for Long-Term Investors

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  • John Y. Campbell
  • Luis M. Viceira
  • Joshua S. White

Abstract

Conventional wisdom holds that conservative investors should avoid exposure to foreign currency risk. Even if they hold foreign equities, they should hedge the currency exposure of these positions and should hold only domestic Treasury bills. This paper argues that the conventional wisdom may be wrong for long-term investors. Domestic bills are risky for long-term investors, because real interest rates vary over time and bills must be rolled over at uncertain future interest rates. This risk can be hedged by holding foreign currency if the domestic currency tends to depreciate when the domestic real interest rate falls, as implied by the theory of uncovered interest parity. Empirically this effect is important and can lead conservative long-term investors to hold more than half their wealth in foreign currency.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 9075.

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Date of creation: Jul 2002
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Publication status: published as Campbell, John Y., Luis M. Viceira and Joshua S. White. "Foreign Currency For Long-Term Investors," Economic Journal, 2003, v113(486,Mar), C1-C25.
Handle: RePEc:nbr:nberwo:9075

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Cited by:
  1. Nicola Carcano, 2007. "Country and currency diversification of bond investments: do they really make sense for Swiss investors?," Financial Markets and Portfolio Management, Springer, Springer, vol. 21(1), pages 95-120, March.
  2. Suh, Sangwon, 2011. "Currency hedging failure in international equity investments and an efficient hedging strategy: The perspective of Korean investors," Pacific-Basin Finance Journal, Elsevier, Elsevier, vol. 19(4), pages 390-403, September.
  3. Susan Thorp, 2004. "That Courage is not inconsistent with Caution: Foreign Currency Hedging for Superannuation Funds," Econometric Society 2004 Australasian Meetings, Econometric Society 148, Econometric Society.
  4. Morse, Adair & Shive, Sophie, 2011. "Patriotism in your portfolio," Journal of Financial Markets, Elsevier, Elsevier, vol. 14(2), pages 411-440, May.
  5. Philip R. Lane, 2006. "Global Bond Portfolios and EMU," The Institute for International Integration Studies Discussion Paper Series, IIIS iiisdp168, IIIS.
  6. Abhyankar, Abhay & Sarno, Lucio & Valente, Giorgio, 2005. "Exchange rates and fundamentals: evidence on the economic value of predictability," Journal of International Economics, Elsevier, Elsevier, vol. 66(2), pages 325-348, July.
  7. John Y. Campbell & Karine Serfaty-De Medeiros & Luis M. Viceira, 2010. "Global Currency Hedging," Journal of Finance, American Finance Association, American Finance Association, vol. 65(1), pages 87-121, 02.
  8. Walker, Eduardo, 2008. "Strategic currency hedging and global portfolio investments upside down," Journal of Business Research, Elsevier, Elsevier, vol. 61(6), pages 657-668, June.
  9. Brière, Marie & Signori, Ombretta, 2013. "Hedging inflation risk in a developing economy: The case of Brazil," Research in International Business and Finance, Elsevier, Elsevier, vol. 27(1), pages 209-222.
  10. Rapach, David E. & Wohar, Mark E., 2009. "Multi-period portfolio choice and the intertemporal hedging demands for stocks and bonds: International evidence," Journal of International Money and Finance, Elsevier, Elsevier, vol. 28(3), pages 427-453, April.
  11. Gianni De Nicoló & Patrick Honohan & Alain Ize, 2003. "Dollarization of the Banking System," IMF Working Papers, International Monetary Fund 03/146, International Monetary Fund.
  12. Mark E. Wohar & David E. Rapach, 2005. "Return Predictability and the Implied Intertemporal Hedging Demands for Stocks and Bonds: International Evidence," Computing in Economics and Finance 2005, Society for Computational Economics 329, Society for Computational Economics.
  13. Carlos Eduardo Meyer dos Santos & Marcos Antonio C. da Silveira, 2010. "Depósitos Em Moeda Estrangeira Como Hedge Para Investidores Brasileiros De Longo Prazo: Uma Aplicação Da Teoria Da Escolha Estratégica De Portfólio," Discussion Papers, Instituto de Pesquisa Econômica Aplicada - IPEA 1462, Instituto de Pesquisa Econômica Aplicada - IPEA.
  14. De Nicolo, Gianni & Honohan, Patrick & Ize, Alain, 2003. "Dollarization of the banking system : good or bad?," Policy Research Working Paper Series, The World Bank 3116, The World Bank.
  15. Benjamin H Cohen, 2005. "Currency choice in international bond issuance," BIS Quarterly Review, Bank for International Settlements, Bank for International Settlements, June.

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