Currency Total Return Swaps: Valuation and Risk Factor Analysis

Romain Cuchet, Pascal François and Georges Hübner

Cahiers de recherche from CIRPEE

Abstract: Currency total return swaps (CTRS) are hybrid derivatives instruments that allow to simultaneously hedge against credit and currency risks. We develop a structural credit risk model to evaluate CTRS premia. Empirical test on a sample of 23,005 price observations from 59 underlying issuers yields an average percentage error of around 10%. This indicates that, beyond interest rate risk, firm-specific factors are major drivers of the variations in the valuation of these instruments. Regression analysis of residuals shows that exchange rate determinants account for up to 40% of model pricing errors – indicating that a currency risk premium affects the CTRS price significantly but only marginally, which confirms the prevalence of credit risk in the pricing of CTRS.

Keywords: Credit derivative; credit risk; currency risk (search for similar items in EconPapers)
JEL-codes: G13 G15 G32 (search for similar items in EconPapers)
Date: 2011
New Economics Papers: this item is included in nep-ban
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Journal Article: Currency total return swaps: valuation and risk factor analysis (2013)
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Persistent link: https://EconPapers.repec.org/RePEc:lvl:lacicr:1128

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