Correlations of currencies with bond and stock returns in the period of 1975 to 2005. Essay

(Campbell, Serfaty-De Medeiros, & Viceira, 2010) discussed about global currency hedging. This paper conduct an out-of-sample analysis to see whether correlations of currencies with bond and stock returns are stable enough in the period of 1975 to 2005. Campbell, Viceira, and White (2003) show that it can be more important for investors with long time horizons, because nominal bills subject investors to fluctuations in real interest rates, while nominal bonds subject them to inflation uncertainty which is relatively more important at longer horizons. If domestic inflation-indexed bonds are available, however, they are riskless in real terms if held to maturity and thus drive out foreign currency from the minimum-variance portfolio. Data is collected from Morgan Stanley Capital International and International Monetary Fund. Method that used is in Campbell, Lo and MacKinlay (1997) which is calculated log return on a coupon bond and also using Sharpe Ratio. They concluded that currencies on Australian dollar, Canadian dollar, Japanese yen and British pound are positively correlated with world stock markets. The euro, the Swiss franc, and the bilateral US-Canadian exchange rate are negatively correlated with the world equity market. Besides that, the currency carry trade is attractive not only to currency speculators, but also to risk-minimizing equity investors, provided that their base currency is a reserve currency and that they can also hold fixed positions in foreign currencies that are unrelated to interest differentials.
(Maurer & Valiani, 2004) discussed forwards versus options for hedging the currency exposure risk an application to international portfolio selection in the period of 1985 to 2002. This research to examines the effectiveness of controlling the currency risk for international diversified mixed asset portfolios via two different hedge instruments, currency forwards and currency options. The equity returns under consideration from total return stock indices compiled by Datastream global index and adjusted for capital gains as well as dividend payments paid during the holding period. The indices for each country that represent portfolios of all listed firms are included in the industry proportions that reflect industry composition in the local market. Each of the indices are value weighted, formed from major companies based on market capitalization. The bond indices are the Datastream government bond indices which represent the total return of the bond markets in local currency, and value-weighted indices of bonds with at least one year to maturity. The forward contracts are contracts for the British Pound, Swiss Franc, Japanese Yen and US Dollar with respect to the German Mark with a maturity of one month. Method that also used is Lower Partial Moment (LPM) and forward contract. They concluded that gains in the in-sample analysis shows that only put in the money options present nearly a comparable result with optimally forward hedged portfolios. The optimally forward hedge strategy in general presents a much better performance than any types of put policies. Then, forward hedged minimum risk portfolio dominates all other strategies. In the depreciation of local currency, the forward hedged tangency portfolio selection would characterize the dominant portfolio strategies.