WPS 10-01: Does Exchange Rate Risk Matter for Asset Pricing?

Posted: Friday, January 22nd 2010 at 12:02 PM

Title:

Does Exchange Rate Risk Matter for Asset Pricing?

Author:

Ding Du
Northern Arizona University
The W. A. Franke College of Business
PO Box 15066
Flagstaff, AZ 86011.5066
ding.du@nau.edu
(928) 523-7274
Fax: (928) 523-7331


Abstract

Following Adler and Dumas (1983), it is a common practice in the exchange rate literature to use the contemporaneous exchange rate change as the relevant risk factor. However, if exchange rate fluctuations affect cash flows of firms as Stulz (1984), among others, suggest and future not current cash flows matter for asset pricing, we should focus on future not contemporaneous exchange rate changes. Furthermore, if as Starks and Wei (2005) suggest exchange rate fluctuations can push a firm into financial distress, the exchange rate risk is a distress factor and should behave like the value factor in the three-factor model and carry a positive risk premium. We test these conjectures in this paper and find supporting evidence in the post Plaza-Accord period.

JEL classification: F31; G15

Keywords: Exchange rate risk; Exchange exposure; Tracking portfolio approach; Two-pass regression approach

10-01 January 2010

PDF of working paper HERE.



Categories: working paper series 2010-2011 working paper series 2010-2011 ding du exchange rate risk exchange exposure tracking portfolio approach two-pass regression approach does exchange rate risk matter for asset pricing