Carry

Ralph S.J. Koijen; Tobias J. Moskowitz; Lasse Heje Pedersen; Evert B. Vrugt

doi:10.1016/j.jfineco.2017.11.002

Carry

Ralph S.J. Koijen^*, Tobias J. Moskowitz, Lasse Heje Pedersen, Evert B. Vrugt

^*Corresponding author for this work

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Abstract

We apply the concept of carry, which has been studied almost exclusively in currency markets, to any asset. A security's expected return is decomposed into its “carry,” an ex-ante and model-free characteristic, and its expected price appreciation. Carry predicts returns cross-sectionally and in time series for a host of different asset classes, including global equities, global bonds, commodities, US Treasuries, credit, and options. Carry is not explained by known predictors of returns from these asset classes, and it captures many of these predictors, providing a unifying framework for return predictability. We reject a generalized version of Uncovered Interest Parity and the Expectations Hypothesis in favor of models with varying risk premia, in which carry strategies are commonly exposed to global recession, liquidity, and volatility risks, though none fully explains carry's premium.

Original language	English
Pages (from-to)	197-225
Number of pages	29
Journal	Journal of Financial Economics
Volume	127
Issue number	2
DOIs	https://doi.org/10.1016/j.jfineco.2017.11.002
Publication status	Published - 1 Feb 2018

Funding

We are grateful for helpful comments from John Y. Campbell (referee), Cliff Asness, Ari Levine, Lars Nielsen, and Ashwin Thapar, Jules van Binsbergen, Peter Christoffersen, John Cochrane, Pierre Collin-Dufresne (discussant), Kent Daniel (discussant), Lars Hansen, John Heaton, Antti Ilmanen, Ronen Israel, Andrea Frazzini, Owen Lamont (discussant), John Liew, Francis Longstaff, Hanno Lustig (discussant), Yao Hua Ooi, Lubos Pastor, Anna Pavlova, Maik Schmeling (discussant), Stijn Van Nieuwerburgh, Andrei Shleifer, Dimitri Vayanos, Moto Yogo, as well as from seminar participants at AQR Capital Management, the 2012 American Finance Association Conference meetings (Chicago, Illinois), University of Chicago, Booth School of Business, the Chicago Mercantile Exchange, the University of Exeter, NOVA University of Lisbon (Portugal), State Street Global Markets, the 2012 National Bureau of Economic Research (NBER) Asset Pricing Summer Institute, the First Foreign Exchange Markets Conference at Imperial College, the 2012 Red Rock Finance Conference, and the fifth annual Paul Woolley Centre conference. Further, we thank Tarek Hassan, Rui Mano, and Adrien Verdelhan for their help with the currency data and Rui Cui, Laszlo Jakab, and Minsoo Kim for excellent research assistance. Ralph Koijen gratefully acknowledges support from the European Research Council (ERC grant no. 338082). Lasse Heje Pedersen gratefully acknowledges support from the European Research Council (ERC grant no. 312417) and the Center for Financial Frictions (FRIC, grant no. DNRF102). AQR Capital Management is a global investment management firm, which may or may not apply similar investment techniques or methods of analysis as described herein. The views expressed here are those of the authors and not necessarily those of AQR.

Funders	Funder number
Booth School of Business
Center for Financial Frictions
FRIC	DNRF102
First Foreign Exchange Markets Conference at Imperial College
Nova University of Lisbon
University of Chicago
Seventh Framework Programme	338082, 312417
University of Exeter
European Research Council

Keywords

Bonds
Carry trade
Commodities
Corporate Bonds
Currencies
Liquidity risk
Options
Predictability
Stocks
Volatility risk

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title = "Carry",

abstract = "We apply the concept of carry, which has been studied almost exclusively in currency markets, to any asset. A security's expected return is decomposed into its “carry,” an ex-ante and model-free characteristic, and its expected price appreciation. Carry predicts returns cross-sectionally and in time series for a host of different asset classes, including global equities, global bonds, commodities, US Treasuries, credit, and options. Carry is not explained by known predictors of returns from these asset classes, and it captures many of these predictors, providing a unifying framework for return predictability. We reject a generalized version of Uncovered Interest Parity and the Expectations Hypothesis in favor of models with varying risk premia, in which carry strategies are commonly exposed to global recession, liquidity, and volatility risks, though none fully explains carry's premium.",

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author = "Koijen, {Ralph S.J.} and Moskowitz, {Tobias J.} and Pedersen, {Lasse Heje} and Vrugt, {Evert B.}",

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AB - We apply the concept of carry, which has been studied almost exclusively in currency markets, to any asset. A security's expected return is decomposed into its “carry,” an ex-ante and model-free characteristic, and its expected price appreciation. Carry predicts returns cross-sectionally and in time series for a host of different asset classes, including global equities, global bonds, commodities, US Treasuries, credit, and options. Carry is not explained by known predictors of returns from these asset classes, and it captures many of these predictors, providing a unifying framework for return predictability. We reject a generalized version of Uncovered Interest Parity and the Expectations Hypothesis in favor of models with varying risk premia, in which carry strategies are commonly exposed to global recession, liquidity, and volatility risks, though none fully explains carry's premium.

KW - Bonds

KW - Carry trade

KW - Commodities

KW - Corporate Bonds

KW - Currencies

KW - Liquidity risk

KW - Options

KW - Predictability

KW - Stocks

KW - Volatility risk

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Carry

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Keywords

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