Search results
1 – 8 of 8Given the difficulties in finding significant exchange rate exposure in the extant literature, this paper attempts to resolve the so-called “exposure puzzle” by investigating…
Abstract
Purpose
Given the difficulties in finding significant exchange rate exposure in the extant literature, this paper attempts to resolve the so-called “exposure puzzle” by investigating whether currency movements have any significant impact on international industry returns.
Design/methodology/approach
This paper utilizes the multivariate Generalized AutoRegressive Conditional Heteroskedasticity (MGARCH) methodology to estimate both symmetric and asymmetric exchange rate exposures for each industry common across 12 countries simultaneously.
Findings
The empirical results show that exchange rate exposure is not only statistically significant but also economically important based on the estimation of an asymmetric three-factor exposure model using MGARCH methodology. This is an extremely important finding as it suggests that the “exposure puzzle” may not be a puzzle at all once a better methodology is utilized in the estimation.
Research limitations/implications
Because this study tries to resolve the exchange rate exposure puzzle by focusing on whether exchange rate movements affect ex-post returns as opposed to ex ante expected returns and given the significant exposures with respect to different risk factors found in the study, it is interesting to see if any of these risk factors commands a risk premium. In other words, a natural extension of this study is to test whether any of these risk factors is priced in international industry returns.
Practical implications
The findings of the study have interesting implications for international investors who would like to diversify their portfolios across different industries and are concerned about whether the unexpected movements in the bilateral exchange rates will affect their portfolio returns in addition to its interest rate and world market risk exposures.
Originality/value
The study utilizes the MGARCH methodology, which has not been fully exploited in the exchange rate exposure literature.
Details
Keywords
It has been increasingly recognized that exchange rate changes affect the cash flow and the value of firms. Existing studies on exchange rate exposure do not have much success in…
Abstract
Purpose
It has been increasingly recognized that exchange rate changes affect the cash flow and the value of firms. Existing studies on exchange rate exposure do not have much success in finding significant exposure, and the failure to find this relationship empirically has been termed “exposure puzzle”. Motivated by the limited success in detecting significant exchange rate exposure in the extant literature, China's exchange rate regime reform in 2005, the increasing role of China's stock market played in the global financial market and its attractiveness in international portfolio diversification, the purpose of this paper is to resolve the so-called “exposure puzzle” and thus make a contribution to the literature by investigating whether the renminbi (RMB) exchange rate movements have any significant impact on China's stock market from the perspective of US investors who may want to diversify their portfolios with Chinese stocks.
Design/methodology/approach
Since previous studies which rely heavily on the standard Ordinary Least Squares (OLS) or seemingly unrelated regression (SUR) method of estimation with the assumption of constant variance of firm's or industry's returns do not have much success in detecting significant exchange rate exposure, in this study, we apply an asymmetric GARCH(1,1) with generalized error distribution (GED) model which takes conditional heteroscedasticity and leptokurtosis of asset returns into account in the estimation of first- and second-moment exchange rate exposure.
Findings
Using weekly data over the period August 10, 2005–January 1, 2020 on 40 Chinese sector stock returns, the authors find strong evidence of first-moment exchange rate exposure. In particular, 65% (26 out of 40) of sectors examined have significant first-moment exposures and 73.08% (19 out of 26) of these significant first-moment exposures are asymmetric. For the second-moment exchange rate exposures, they are less frequently detected with 20% (8 out of 40) significant cases. These results are robust to whether an unorthogonalized or orthogonalized bilateral US dollar (USD)/Chinese Yuan (CNY) exchange rate is used in the estimation.
Research limitations/implications
Because this study concerns only with whether exchange rate movements affect ex post returns as opposed to expected (ex ante) returns, and given the significant exposures with respect to different risk factors found in the study, it is interesting to see if any of these risk factors commands a risk premium. In other words, a natural extension of this study is to test whether any of these risk factors is priced in China's stock market.
Practical implications
The findings of the study have interesting implications for US investors who would like to diversify their portfolios with Chinese stocks and are concerned about whether the unexpected movements in CNY will affect their portfolio returns in addition to its local and world market risk exposures.
Originality/value
The study extends previous research on the first- and second-moment exchange rate exposure of Chinese stock returns by utilizing an asymmetric GARCH(1,1) with generalized error distribution (GED) model, which has not been fully exploited in the literature.
Details
Keywords
The purpose of this paper is to provide empirical evidence on how 1999–2001 dot-com crisis and 2007–2009 subprime crisis affect the gains from international diversification from…
Abstract
Purpose
The purpose of this paper is to provide empirical evidence on how 1999–2001 dot-com crisis and 2007–2009 subprime crisis affect the gains from international diversification from the perspective of US investors.
Design/methodology/approach
A conditional international CAPM with asymmetric multivariate GARCH-M specification is used to estimate international diversification gains.
Findings
The authors find that over the entire sample period, the average gains from international diversification is statistically significant and about 1.253 percent per year. During the subprime crisis period, the average gains decreases to about 0.567 percent per year, but it increases to 2.829 percent per year during the dot-com crisis.
Research limitations/implications
These research findings although confirm the conjectures that international financial turmoil tends to increase the co-movements among global financial markets, are in contrast to the conjectures that international diversification does not work during the financial crisis as evidence from the dot-com crisis. Therefore, future research on international diversification should not just focus on the correlation among international financial markets and should adopt a fully parameterized asset pricing model to study this research topic.
Practical implications
Given the empirical results found in this paper that international diversification gains may be decreasing or increasing during the financial crisis, as long as investors are not able to predict international financial crises, it is the average gains from international diversification over the longer periods that should encourage investors to diversify, regardless of potentially lower benefits over the shorter periods of time.
Originality/value
The major value of this paper is that although the increase in the conditional correlation during the financial turmoil is consistent with previous studies, the empirical results clearly show that the impact of a financial crisis on the gains from international diversification cannot be solely determined by the correlation between domestic and world stock market returns since the gains also depend on the unsystematic risk from the domestic stock market. Consequently, it is premature for previous studies to conclude that the gain from international diversification is diminishing due to an increasing correlation among international stock markets during the financial crisis.
Details
Keywords
Whether stock returns are linked to exchange rate changes and whether foreign exchange risk is priced in a domestic context are less conclusive and thus still subject to a great…
Abstract
Purpose
Whether stock returns are linked to exchange rate changes and whether foreign exchange risk is priced in a domestic context are less conclusive and thus still subject to a great debate. The purpose of this paper is to provide new empirical evidence on these two inter‐related issues, which are critical to investors and corporate risk management.
Design/methodology/approach
This paper applies two different econometric approaches: Nonlinear Seemingly Unrelated Regression (NLSUR) via Hansen's Generalized Method of Moment (GMM) and multivariate GARCH in mean (MGARCH‐M) to examine the exchange rate exposure and its pricing.
Findings
Using industry data for Japan, similar to previous studies, foreign exchange risk is not priced based on the test of an unconditional two‐factor asset pricing model. However, strong evidence of time‐varying foreign exchange risk premium and significant exchange rate betas are obtained based on the tests of conditional asset pricing models using MGARCH‐M approach where both conditional first and second moments of industry returns and risk factors are estimated simultaneously.
Research limitations/implications
The strong empirical evidence found in this study implies that corporate currency hedging not only results in more stable cash flows for a firm, but also reduces its cost of capital, and hence is justifiable.
Originality/value
This paper conducts an in‐depth investigation regarding the exchange rate exposure and its pricing by utilizing two different econometric approaches: NLSUR via Hansen's GMM and MGARCH‐M. In doing so, a more reliable conclusion about the exchange rate exposure and its pricing can be drawn.
Details
Keywords
The purpose of this paper is to examine the effects of exchange rate and global industry shocks on the relative performance of global industries.
Abstract
Purpose
The purpose of this paper is to examine the effects of exchange rate and global industry shocks on the relative performance of global industries.
Design/methodology/approach
In addition to SUR approach, we also use GARCH approach to control for heteroskedasticity.
Findings
Using industry data from Japan and the USA, the authors find that although both exchange rate and global industry shocks are statistically significant in explaining the performance of these industries relative to their domestic markets, economically the global industry shock plays the major role in determining this performance.
Research limitations/implications
The authors' findings are only based on two countries, the USA and Japan, so future researchers can use the authors' empirical models to test if their results hold using data from other countries.
Practical implications
Investors should focus more on the performance of global industries instead of exchange rate changes when creating their portfolios.
Originality/value
Our empirical results may explain the poor performance of the regression models in Griffin and Stulz ten years ago where they fail to control for the global industry shock.
Details
Keywords
Elyas Elyasiani and Iqbal Mansur
This study employs a multivariate GARCH model to investigate the relative sensitivities of the first and the second moment of bank stock return distribution to the short‐term and…
Abstract
This study employs a multivariate GARCH model to investigate the relative sensitivities of the first and the second moment of bank stock return distribution to the short‐term and long‐term interest rates and their respective volatilities. Three portfolios are formed representing the money center banks, large banks, and small banks, respectively. Estimation and testing of hypotheses are carried out for each of the three portfolios separately. The sample includes daily data over the 1988‐2000 period. Several hypotheses are tested within the multivariate GARCH specification. These include the hypotheses of: (i) insensitivity of bank stock return to the changes in the short‐term and long‐term interest rates, (ii) insensitivity of bank stock returns to the changes in the volatilities of short‐term and long‐term interest rates, and (iii) insensitivity of bank stock return volatility to the changes in the short‐term and long‐term interest rate volatilities. The findings indicate that short‐term and long‐term interest rates and their volatilities do exert significant and differential impacts on the return generation process of the three bank portfolios. The magnitudes and the direction of the effect are model‐specific namely that they depend on whether the short‐term or the long‐term interest rate level is included in the mean return equation. These findings have implications on bank hedging strategies against the interest rate risk, regulatory decisions concerning risk‐based capital requirement, and investor’s choice of a portfolio mix.
Details