Credit migration and covered interest rate parity

Gordon Liao

Journal of Financial Economics, 2020, vol. 138, issue 2, 504-525

Abstract: This paper examines the joint determination of deviations in long-term covered interest rate parity and differences in the credit spread of bonds of similar risk but different currency denomination. These two pricing anomalies are highly aligned in both the time series and the cross-section of currencies. The sum of these two pricing deviations—the corporate basis—represents the currency-hedged borrowing cost difference between currency regions and explains up to a third of the variation in the aggregate corporate debt issuance flow. I show that arbitrage aimed at exploiting one type of security anomaly can give rise to the other.

Keywords: Covered interest rate parity; Credit spread; Debt issuance; Foreign exchange rate hedging; Limits of arbitrage (search for similar items in EconPapers)
JEL-codes: E44 F3 F55 G12 G15 G23 G28 G32 (search for similar items in EconPapers)
Date: 2020
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (49)

Downloads: (external link)
http://www.sciencedirect.com/science/article/pii/S0304405X20301690
Full text for ScienceDirect subscribers only

Related works:
Working Paper: Credit Migration and Covered Interest Rate Parity (2019)
Working Paper: Credit Migration and Covered Interest Rate Parity (2016)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:eee:jfinec:v:138:y:2020:i:2:p:504-525

DOI: 10.1016/j.jfineco.2020.06.002

Access Statistics for this article

Journal of Financial Economics is currently edited by G. William Schwert

More articles in Journal of Financial Economics from Elsevier
Bibliographic data for series maintained by Catherine Liu ().