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American Economic Review Vol. 97 No. 2 2007

The Returns to Currency Speculation in Emerging Markets

Craig Burnside1; Martin Eichenbaum2; Sergio Rebelo3

1 Department of Economics, Duke University, Durham, NC 27708. · 2 Department of Economics, Northwestern University, Evanston, IL 60208. · 3 Department of Finance, Kellogg School of Management, Northwestern University, Evanston, IL 60208.

Abstract

The carry trade strategy involves selling forward currencies that are at a forward premium and buying forward currencies that are at a forward discount. We compare the payoffs to the carry trade applied to two different portfolios. The first portfolio consists exclusively of developed country currencies. The second portfolio includes the currencies of both developed countries and emerging markets. Our main empirical findings are as follows. First, including emerging market currencies in our portfolio substantially increases the Sharpe ratio associated with the carry trade. Second, bid-ask spreads are two to four times larger in emerging markets than in developed countries. Third and most dramatically, the payoffs to the carry trade for both portfolios are uncorrelated with returns to the U.S. stock market.

DOI
10.1257/aer.97.2.333
Volume
97
Issue
2
Pages
333-338
Language
en
Sources
bibtex:phds-export.bib openalex crossref

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