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Can the Consumption Capital Asset Pricing Model Account for Traders' Expected Currency Returns?
Author(s) -
Stillwagon Josh R.
Publication year - 2015
Publication title -
review of international economics
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.513
H-Index - 58
eISSN - 1467-9396
pISSN - 0965-7576
DOI - 10.1111/roie.12195
Subject(s) - economics , econometrics , capital asset pricing model , exchange rate , covariance , consumption based capital asset pricing model , consumption (sociology) , currency , asset (computer security) , risk aversion (psychology) , financial economics , monetary economics , expected utility hypothesis , statistics , mathematics , social science , computer security , sociology , computer science
This study uses survey data on traders' exchange rate forecasts to test whether their expected excess returns are related to the covariance between the exchange rate and consumption; as predicted by the consumption capital asset pricing model ( CCAPM ). The covariance is measured through the novel use of rolling windows of the realized covariance (both forward and backward looking) and testing is conducted with the cointegrated VAR . The model is able to account for expected returns with more plausible degrees of risk aversion, but only when using sufficiently long, backward‐looking measures of the covariance. This suggests that market participants assess risk, in part, based upon the pro‐cyclicality of returns, and infer it from experience in the recent past. There is also evidence that inclusion of the real exchange rate improves the plausibility of the estimates and the model fit.