Foreign exchange risk and the term-structure of industry costs of equity

Alain Krapl and Carmelo Giaccotto

Journal of International Money and Finance, 2015, vol. 51, issue C, 71-88

Abstract: This paper makes two contributions to the literature. First, we build on the methodology of Ang and Liu (2004) to model the cost of capital term-structure for firms subject to foreign exchange (FX) risk. We emphasize the role of time-varying parameters such as FX risk and factor loadings. Second, we estimate the term-structure for 39 U.S. industries. We find that: 1) FX exposure changes the position and shape of the term-structures; 2) The average FX risk premium is 2.29% for cash flows with short-term maturity, but declines as maturity increases; 3) The pricing error from ignoring the term-structure is smaller than the error resulting from the omission of the FX risk component.

Keywords: Cost of capital term-structure; Foreign currency risk premium; Global market risk premium; Industry Cost of capital; Global CAPM; International CAPM (search for similar items in EconPapers)
JEL-codes: G12 G15 (search for similar items in EconPapers)
Date: 2015
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Persistent link: https://EconPapers.repec.org/RePEc:eee:jimfin:v:51:y:2015:i:c:p:71-88

DOI: 10.1016/j.jimonfin.2014.11.001

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