The Returns to Currency Speculation / Craig Burnside, Martin Eichenbaum, Isaac Kleshchelski, Sergio Rebelo.

By:

Burnside, Craig

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Material type: Text

TextSeries: Working Paper Series (National Bureau of Economic Research) ; no. w12489.Publication details: Cambridge, Mass. National Bureau of Economic Research 2006.Description: 1 online resource: illustrations (black and white)Subject(s):

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Abstract: Currencies that are at a forward premium tend to depreciate. This 'forward-premium puzzle' represents an egregious deviation from uncovered interest parity. We document the properties of returns to currency speculation strategies that exploit this anomaly. We show that these strategies yield high Sharpe ratios which are not a compensation for risk. In practice bid-ask spreads are an increasing function of order size. In addition, there is price pressure, i.e. exchange rates are an increasing function of net order flow. Together these frictions greatly reduce the profitability of currency speculation strategies. In fact, the marginal Sharpe ratio associated with currency speculation can be zero even though the average Sharpe ratio is positive.

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Item type	Home library	Collection	Call number	Status	Date due	Barcode	Item holds
Working Paper	Biblioteca Digital	Colección NBER	nber w12489 (Browse shelf(Opens below))	Not For Loan

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August 2006.

Currencies that are at a forward premium tend to depreciate. This 'forward-premium puzzle' represents an egregious deviation from uncovered interest parity. We document the properties of returns to currency speculation strategies that exploit this anomaly. We show that these strategies yield high Sharpe ratios which are not a compensation for risk. In practice bid-ask spreads are an increasing function of order size. In addition, there is price pressure, i.e. exchange rates are an increasing function of net order flow. Together these frictions greatly reduce the profitability of currency speculation strategies. In fact, the marginal Sharpe ratio associated with currency speculation can be zero even though the average Sharpe ratio is positive.