Handbook of Exchange Rates

10.7 Acknowledgments

I thank Martin Eichenbaum, Barry Rafferty, Sergio Rebelo, Nikolai Roussanov, Lucio Sarno, and an anonymous referee for their helpful comments.

¹See Hodrick (1987) and Engel (1996) for reviews of the large literature documenting the failure of UIP.

²This is the same procedure used by Lustig et al. (-NIL-) and Menkhoff et al. (2012).

³The HML portfolio is a close cousin of a market index, the Deutsche Bank G10 Currency Future Harvest (DBCFH). The DBCFH index takes positions in up to six currencies from a list of 10. The index is formed by taking equally weighted long positions vis-à-vis the USD in the three currencies with the highest interest rates, and symmetric short positions vis-à-vis the USD in the three currencies with the lowest interest rates. The currency composition of the DBCFH portfolio is rebalanced quarterly, while the composition of my HML portfolio is rebalanced monthly.

⁴For early surveys see Hodrick (1987) and Engel (1996). For recent evidence, see Burnside et al. (2006). Bekaert and Hodrick (1992) provide a broad set of evidence on the predictability of currency returns.

⁵Burnside (2010b) goes through the details of this “by construction” result.

⁶Krasker (1980); Lewis (1989), and Kaminsky (1993) explored the role of peso problems in explaining the behavior of foreign exchange markets. More recently Burnside et al. (2011a) ask whether out-of-sample events can explain the returns to the carry trade. Farhi and Gabaix (2008) and Farhi et al. ...