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Diversification role of currency momentum for carry trade: Evidence from financial crises

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  • Yamani, Ehab

Abstract

The main objective of this paper is to investigate the diversification role of currency momentum for carry trade crashes during the turbulent periods surrounding the 1997–1998 Asian financial crisis and the 2007–2008 global financial crisis. The motivation is to use an important tendency of momentum strategy to yield statistically and economically significant profits during crisis periods that are far higher than the crashes commonly experienced with the carry trade. I use an empirical heterogeneous agent model to design a new trading strategy which combines carry trade and momentum signals where the relative weight given to both signals is based on their past performance. The main finding is that the combined strategy is a good hedge with desirable diversification merits in times of financial stress. This evidence has important implications for the practices of currency portfolio management during times of heightened financial uncertainty.

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  • Yamani, Ehab, 2019. "Diversification role of currency momentum for carry trade: Evidence from financial crises," Journal of Multinational Financial Management, Elsevier, vol. 49(C), pages 1-19.
  • Handle: RePEc:eee:mulfin:v:49:y:2019:i:c:p:1-19
    DOI: 10.1016/j.mulfin.2019.02.004
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    Keywords

    Exchange rate; Carry trade; Currency momentum; Currency hedging; Heterogeneous agent models;

    JEL classification:

    • G01 - Financial Economics - - General - - - Financial Crises
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • F31 - International Economics - - International Finance - - - Foreign Exchange

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