IDEAS home Printed from
   My bibliography  Save this paper

The forward premium puzzle and latent factors day by day


  • Bernoth, Kerstin
  • von Hagen, Jürgen
  • de Vries, Casper


We use futures instead of forward rates to study the complete maturity spectrum of the forward premium puzzle from two days to six months. At short maturities the slope coeffcient is positive, but these turn negative as the maturity increases to the monthly level. Futures data allow us to control for the influence of an unobserved factor that can be decomposed into a contract-speci fic and a time-to-maturity e ffect. Once we do this, we nd that the coefficients on the forward premium are much closer to one. The latent factor is shown to be related to conventional proxies of risk.

Suggested Citation

  • Bernoth, Kerstin & von Hagen, Jürgen & de Vries, Casper, 2012. "The forward premium puzzle and latent factors day by day," Annual Conference 2012 (Goettingen): New Approaches and Challenges for the Labor Market of the 21st Century 62017, Verein für Socialpolitik / German Economic Association.
  • Handle: RePEc:zbw:vfsc12:62017

    Download full text from publisher

    File URL:
    Download Restriction: no

    Other versions of this item:

    References listed on IDEAS

    1. Polakoff, Michael A. & Grier, Paul C., 1991. "A comparison of foreign exchange forward and futures prices," Journal of Banking & Finance, Elsevier, vol. 15(6), pages 1057-1080, December.
    2. Hanno Lustig & Nikolai Roussanov & Adrien Verdelhan, 2011. "Common Risk Factors in Currency Markets," Review of Financial Studies, Society for Financial Studies, vol. 24(11), pages 3731-3777.
    3. McCallum, Bennett T., 1994. "A reconsideration of the uncovered interest parity relationship," Journal of Monetary Economics, Elsevier, vol. 33(1), pages 105-132, February.
    4. Engel, Charles, 1996. "The forward discount anomaly and the risk premium: A survey of recent evidence," Journal of Empirical Finance, Elsevier, vol. 3(2), pages 123-192, June.
    5. Eric van Wincoop & Philippe Bacchetta, 2007. "Random Walk Expectations and the Forward Discount Puzzle," American Economic Review, American Economic Association, vol. 97(2), pages 346-350, May.
    6. Kenneth A. Froot & Jeffrey A. Frankel, 1989. "Forward Discount Bias: Is it an Exchange Risk Premium?," The Quarterly Journal of Economics, Oxford University Press, vol. 104(1), pages 139-161.
    7. Liang Ding & Linh To, 2010. "The Forward Premium Puzzle Across Maturities," Economics Bulletin, AccessEcon, vol. 30(2), pages 1113-1119.
    8. Menzie D. Chinn & Guy Meredith, 2004. "Monetary Policy and Long-Horizon Uncovered Interest Parity," IMF Staff Papers, Palgrave Macmillan, vol. 51(3), pages 409-430, November.
    9. M. Hashem Pesaran, 2006. "Estimation and Inference in Large Heterogeneous Panels with a Multifactor Error Structure," Econometrica, Econometric Society, vol. 74(4), pages 967-1012, July.
    10. Chaboud, Alain P. & Wright, Jonathan H., 2005. "Uncovered interest parity: it works, but not for long," Journal of International Economics, Elsevier, vol. 66(2), pages 349-362, July.
    11. Mark, Nelson C & Wu, Yangru, 1998. "Rethinking Deviations from Uncovered Interest Parity: The Role of Covariance Risk and Noise," Economic Journal, Royal Economic Society, vol. 108(451), pages 1686-1706, November.
    12. Cornell, Bradford & Reinganum, Marc R, 1981. "Forward and Futures Prices: Evidence from the Foreign Exchange Markets," Journal of Finance, American Finance Association, vol. 36(5), pages 1035-1045, December.
    13. 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.
    14. Fama, Eugene F., 1984. "Forward and spot exchange rates," Journal of Monetary Economics, Elsevier, vol. 14(3), pages 319-338, November.
    15. Craig Burnside & Martin Eichenbaum & Isaac Kleshchelski & Sergio Rebelo, 2006. "The Returns to Currency Speculation," 2006 Meeting Papers 864, Society for Economic Dynamics.
    16. Chinn, Menzie D., 2006. "The (partial) rehabilitation of interest rate parity in the floating rate era: Longer horizons, alternative expectations, and emerging markets," Journal of International Money and Finance, Elsevier, vol. 25(1), pages 7-21, February.
    17. Hodrick, Robert J. & Srivastava, Sanjay, 1987. "Foreign currency futures," Journal of International Economics, Elsevier, vol. 22(1-2), pages 1-24, February.
    18. Bilson, John F O, 1981. "The "Speculative Efficiency" Hypothesis," The Journal of Business, University of Chicago Press, vol. 54(3), pages 435-451, July.
    19. Gourinchas, Pierre-Olivier & Tornell, Aaron, 2004. "Exchange rate puzzles and distorted beliefs," Journal of International Economics, Elsevier, vol. 64(2), pages 303-333, December.
    20. Chang, Carolyn W & Chang, Jack S K, 1990. " Forward and Futures Prices: Evidence from the Foreign Exchange Markets," Journal of Finance, American Finance Association, vol. 45(4), pages 1333-1336, September.
    Full references (including those not matched with items on IDEAS)


    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.

    Cited by:

    1. Tamgac, Unay, 2013. "Duration of fixed exchange rate regimes in emerging economies," Journal of International Money and Finance, Elsevier, vol. 37(C), pages 439-467.
    2. Aziz Chouikh & Abdelwahed Trabelsi, 2014. "Modeling Risk Premia in Forward Foreign Exchange Rates as Unobserved Components: The Model Identification Problem," International Journal of Financial Research, International Journal of Financial Research, Sciedu Press, vol. 5(3), pages 119-135, July.

    More about this item

    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F37 - International Economics - - International Finance - - - International Finance Forecasting and Simulation: Models and Applications
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing

    NEP fields

    This paper has been announced in the following NEP Reports:


    Access and download statistics


    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:zbw:vfsc12:62017. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (ZBW - German National Library of Economics). General contact details of provider: .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.