Working Paper: NBER ID: w19325
Authors: Ralph S.J. Koijen; Tobias J. Moskowitz; Lasse Heje Pedersen; Evert B. Vrugt
Abstract: A security's expected return can be decomposed into its "carry" and its expected price appreciation, where carry can be measured in advance without an asset pricing model. We find that carry predicts returns both in the cross section and time series for a variety of different asset classes that include global equities, global bonds, currencies, commodities, US Treasuries, credit, and equity index options. This predictability underlies the strong returns to "carry trades" that go long high-carry and short low-carry securities, applied almost exclusively to currencies, but shown here to be a robust feature of many assets. We decompose carry returns into static and dynamic components and analyze the economic exposures. Despite unconditionally low correlations across asset classes, we find times when carry strategies across all asset classes do poorly, and show that these episodes coincide with global recessions.
Keywords: carry; expected returns; asset pricing; global markets
JEL Codes: F3; G1
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| macroeconomic conditions (E66) | performance of carry trades (G15) |
| carry (Y60) | expected returns (G17) |
| high carry securities (G12) | subsequent returns (I26) |
| dynamic component of carry (C69) | returns (Y60) |
| carry variations (F31) | fluctuations in expected returns (G17) |