When Carry Goes Bad: The Magnitude, Causes, and Duration of Currency Carry Unwinds

Michael Melvin and Duncan Shand

Financial Analysts Journal, 2017, vol. 73, issue 1, 121-144

Abstract: We analyze the worst episodes of currency carry loss in recent decades, including causes, attribution by currency, timing, and duration of carry drawdowns. To explore the determinants of the length of carry losses, we estimate a model of carry drawdown duration. We find evidence that drawdown duration varies systematically with (1) expected return on the carry trade at the onset of the drawdown, (2) financial stress indicators, and (3) the magnitude of deviations from a fundamental value portfolio of the carry-related portfolio holdings. In an out-of-sample test, we show that these determinants can be used to control carry-related losses and improve investment performance.Editor’s note:This article was externally reviewed using our double-blind peer-review process. When the article was accepted for publication, the authors thanked the reviewers in their acknowledgments. Denis Chaves was one of the reviewers for this article.Submitted 27 October 2015Accepted 17 August 2016 by Stephen Brown

Date: 2017
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Working Paper: When Carry Goes Bad: The Magnitude, Causes, and Duration of Currency Carry Unwinds (2016)
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DOI: 10.2469/faj.v73.n1.4

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