Conditionally-hedged currency carry trades

Jin Ho Choi and Sangwon Suh

Journal of International Financial Markets, Institutions and Money, 2022, vol. 79, issue C

Abstract: In this study, we show that currency option prices possess predictive powers on future currency carry trade crashes. We then propose a new currency carry trade strategy that hedges carry trade crash risks only when crashes are predicted. We find that the new conditionally-hedged strategy not only hedges crash risks but also offers a significant increase in profit, compared to the conventional currency carry trade strategy during the hedging periods. The superiority of the new conditionally-hedged carry trade relative to the conventional carry trade is robust to various specification changes. Our results oppose the argument that excess returns from a carry trade are compensation for crash risk exposures.

Keywords: Currency carry trade; Crash risk; Predictability; Hedging (search for similar items in EconPapers)
JEL-codes: F31 G11 (search for similar items in EconPapers)
Date: 2022
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Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:intfin:v:79:y:2022:i:c:s1042443122000737

DOI: 10.1016/j.intfin.2022.101591

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