Recent estimates of time-variation in the conditional variance and in the exchange risk premium
The optimal-diversification model of investors' portfolio behavior can give a linear relationship between the exchange risk premium and the conditional exchange rate variance. This note surveys recent empirical work that allows for the conditional variance itself, and therefore the risk premium, to vary over time. In particular, it examines the implications of recent empirical estimates for earlier arguments, based on the assumption that the conditional variance was constant over time, that the exchange risk premium had to be small in magnitude and variability.
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- Lyons, Richard K., 1988. "Tests of the foreign exchange risk premium using the expected second moments implied by option pricing," Journal of International Money and Finance, Elsevier, vol. 7(1), pages 91-108, March.
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- Hsieh, David A., 1984. "Tests of rational expectations and no risk premium in forward exchange markets," Journal of International Economics, Elsevier, vol. 17(1-2), pages 173-184, August.
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- Fama, Eugene F., 1984. "Forward and spot exchange rates," Journal of Monetary Economics, Elsevier, vol. 14(3), pages 319-338, November.
- Giovannini, Alberto & Jorion, Philippe, 1987. "Interest rates and risk premia in the stock market and in the foreign exchange market," Journal of International Money and Finance, Elsevier, vol. 6(1), pages 107-123, March.
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