Relationships between Currency Carry Trade and Stock Markets
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School of Business |
Master's thesis
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Authors
Date
2017
Department
Major/Subject
Mcode
Degree programme
Finance
Language
en
Pages
55
Series
Abstract
My paper examines the relationship between currency carry trade and stock market returns. In this exercise, I analyze the effects of Japanese yen-based and US dollar-based carry trade strategies on the stock market performance of both funding and investment currencies. Currency-specific profit measure, calculated as the difference between future (realized) spot exchange rate and today forward rate, is used as a proxy for carry trade return. Using the traditional regression equation with explicitly accounting for GARCH effects in the error term, I find that: (1) there are positively significant associations between carry trade return and stock market performance in the corresponding target currency countries (Australia, New Zealand and China); (2) the relationship between carry trade and stock market returns in the corresponding funding currency countries (Japan and US) is mixed. There is negatively significant association between US dollar-based carry trade and US stock market while the relationship between yen-based carry trade and Japanese stock market is positive. My results raise a possible dispute on the role of Japanese yen as a popular choice of funding currency in carry trade transactions. However, the finding is well supported with robustness check by introducing two explanatory factors (control variables), namely market “fear gauge” VIX and Bloomberg Commodity Price indexes.Description
Thesis advisor
Puttonen, VesaKeywords
carry trade profit, stock market return, cross-market relationship, carry trade index, target currency stock market, funding currency stock market, Japanese yen carry trade, US-based carry trade