Exchange Rate Dynamics and United States Dollar-Denominated Sovereign Bond Prices in Emerging Markets

Cho-Hoi Hui (), Chi-Fai Lo () and Po-Hon Chau ()
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Cho-Hoi Hui: Hong Kong Monetary Authority
Chi-Fai Lo: Department of Physics, Chinese University of Hong Kong
Po-Hon Chau: Department of Physics, Chinese University of Hong Kong

No 530, ADB Economics Working Paper Series from Asian Development Bank

Abstract: The study conducts an empirical test on dollar-denominated sovereign credit spreads in emerging markets, including Brazil, Colombia, Mexico, the Philippines, the Russian Federation, and Turkey to examine their relationship with each country’s exchange rate and the United States (US) Treasury yields. The relationship between each country’s exchange rate and the pricing of each country’s US-dollar denominated sovereign bonds was particularly strong after the global financial crisis of 2008–2009. A two-factor pricing model is developed with closed-form solutions for the sovereign bonds. The correlated factors in the model are foreign exchange rates and US risk-free interest rates that follow a double square-root process relevant in a low interest rate environment. The numerical results and associated error analysis show that the model credit spreads can broadly track market credit spreads.

Keywords: bond pricing model; emerging markets; exchange rates; sovereign risk (search for similar items in EconPapers)
JEL-codes: G13 G21 G28 (search for similar items in EconPapers)
Pages: 37 pages
Date: 2017-12-06
New Economics Papers: this item is included in nep-cis, nep-mon and nep-sea
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