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Variance risk premiums and the forward premium puzzle

Juan M. Londono and Hao Zhou

Journal of Financial Economics, 2017, vol. 124, issue 2, 415-440

Abstract: We provide new empirical evidence that world currency and U.S. stock variance risk premiums have nonredundant and significant predictive power for the appreciation rates of 22 with respect to the U.S. dollar, especially at the four-month and one-month horizons, respectively. The heterogeneous exposures of currencies to the currency variance risk premium are systematically rising along the line of inflation risk. We rationalize these findings in a consumption-based asset pricing model, with local consumption uncertainty and global inflation uncertainty characterized, respectively, by the stock and currency variance risk premiums.

Keywords: Currency return predictability; Currency and stock variance risk premiums; Forward premium puzzle; Local consumption uncertainty; Global inflation uncertainty (search for similar items in EconPapers)
JEL-codes: G12 G15 F31 (search for similar items in EconPapers)
Date: 2017
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Persistent link: https://EconPapers.repec.org/RePEc:eee:jfinec:v:124:y:2017:i:2:p:415-440

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