The PPP View of Multihorizon Currency Risk Premiums

Mikhail Chernov and Drew Creal

The Review of Financial Studies, 2021, vol. 34, issue 6, 2728-2772

Abstract: Exposures of expected future nominal depreciation rates to the current interest rate differential violate the UIP hypothesis in a pattern that is a nonmonotonic function of horizon. Forward expected nominal depreciation rates are monotonic. We explain the two patterns by simultaneously incorporating the weak form of PPP into a joint model of the stochastic discount factor, the nominal exchange rate, and domestic and foreign yield curves. Departures from PPP generate the first pattern. The risk premiums for these departures generate the second pattern. Thus, the variance of the stochastic discount factor is related to the real exchange rate.

JEL-codes: F31 F47 G12 G15 (search for similar items in EconPapers)
Date: 2021
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Citations: View citations in EconPapers (4)

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