Can risk-rebalancing explain the negative correlation between stock return differential and currency? Or, does source status drive it?
Sabutay Fatullayev and
Journal of Financial Markets, 2016, vol. 27, issue C, 28-54
We show that Hau and Rey׳s (2006) empirical evidence is not sufficient to support their risk-rebalancing theory as an explanation for the negative correlation between the stock market return differential and currency. A simple model combining home-wealth rebalancing and extrapolative expectations on the foreign stock predicts this negative correlation only when the host market is a source of international capital. Panel regressions indicate that the source status of the economy (i.e., whether it is a net receiver or source of international capital) is a main predictor of the stock return differential–currency correlation.
Keywords: Exchange rates; Stock market return differentials; Equity portfolio flows; Portfolio rebalancing. (search for similar items in EconPapers)
JEL-codes: F31 G12 G15 (search for similar items in EconPapers)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:finmar:v:27:y:2016:i:c:p:28-54
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