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International correlation risk

Mueller, Philippe, Stathopoulos, Andreas and Vedolin, Andrea (2017) International correlation risk. Journal of Financial Economics, 126 (2). pp. 270-299. ISSN 0304-405X

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Identification Number: 10.1016/j.jfineco.2016.09.012

Abstract

We show that the cross-sectional dispersion of conditional foreign exchange (FX) correlation is countercyclical and that currencies that perform badly (well) during periods of high dispersion yield high (low) average excess returns. We also find a negative cross-sectional association between average FX correlations and average option-implied FX correlation risk premiums. Our findings show that while investors in spot currency markets require a positive risk premium for exposure to high dispersion states, FX option prices are consistent with investors being compensated for the risk of low dispersion states. To address our empirical findings, we propose a no-arbitrage model that features unspanned FX correlation risk.

Item Type: Article
Official URL: https://www.journals.elsevier.com/journal-of-finan...
Additional Information: © 2017 Elsevier B.V.
Divisions: Finance
Subjects: H Social Sciences > HD Industries. Land use. Labor > HD61 Risk Management
H Social Sciences > HG Finance
Sets: Departments > Finance
Date Deposited: 30 Aug 2017 09:11
Last Modified: 20 Jun 2020 02:31
URI: http://eprints.lse.ac.uk/id/eprint/84140

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