Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/339000 
Year of Publication: 
2025
Series/Report no.: 
Working Paper No. 10/2025
Publisher: 
Örebro University School of Business, Örebro
Abstract: 
This paper examines the role of long-run and cyclical components of interest rate differentials in explaining the returns to currency carry strategies. We show that long-run differentials account for most of the profitability, while cyclical differentials play only a limited role. A simple strategy that goes long currencies above the median long-run differential and shorts those below delivers a statistically and economically significant annualized excess return of 2.48%. Relative to traditional carry, our strategy achieves a higher Sharpe ratio, lower turnover and a less negative skewness. We introduce a new tradable carry factor that explains the cross section of currency returns beyond the benchmark carry factor.
Subjects: 
Carry trade
currencies
long-run interest rates
trend-cycle decomposition
JEL: 
G12
G15
F31
Document Type: 
Working Paper

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