Carry trades and commodity risk factors

Byrne, Joseph P. and Ibrahim, Boulis Maher and Sakemoto, Ryuta (2019) Carry trades and commodity risk factors. Journal of International Money and Finance, 96. pp. 121-129. ISSN 0261-5606 (https://doi.org/10.1016/j.jimonfin.2019.04.004)

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Abstract

This paper investigates the importance of commodity prices for the returns of currency carry trade portfolios. We adopt a recently developed empirical factor model to capture commodity commonalities and heterogeneity. Agricultural material and metal price risk factors are found to have explanatory power on the cross-section of currency returns, while commodity common and oil factors do not. Although stock market risk is strongly linked to currencies in developed countries, the agricultural material factor is more important for emerging currencies compared to the stock market factor. This suggests that emerging currencies are somewhat segmented from a common financial market shock.

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