Foreign currency for long-term investors
By: John Y. Campbell, Luis M. Viceira, Joshua S. White
Contributors: Viceira, Luis M.; White, Joshua S.; Harvard Business School. Division of Research
Series: Working paper / Division of Research, Harvard Business School -- 03-056; Working paper (Harvard Business School. Division of Research) -- 03-056
Publisher: Division of Research, Harvard Business School
Published: 2002
Place of publication: Boston]
Language: eng
Number of pages: 27
Subjects: Interest rates; Risk management; Foreign exchange market
Description: Conventional wisdom holds that conservative investors should avoid exposure to foreign currency risk. Even if they hold foreign equities, they should hedge the currency exposure of these positions and should hold only domestic Treasury bills. This paper argues that the conventional wisdom may be wrong for long-term investors. Domestic bills are risky for long-term investors, because real interest rates vary over time and bills must be rolled over at uncertain future interest rates. This risk can be hedged by holding foreign currency if the domestic currency tends to depreciate when the domestic real interest rate falls, as implied by the theory of uncovered interest parity. Empirically this effect is important and can lead conservative long-term investors to hold more than half their wealth in foreign currency.
Notes: Includes bibliographical references.