Systematic consumption risk in currency returns

Abstract

We sort currencies into portfolios by countries’ consumption growth over the past year. The excess return of the highest-consumption-growth currency portfolio over the portfolio of lowest-consumption-growth currencies is positive on average, compensating investors for large negative returns during world-wide downturns. This return—our consumption carry factor—prices the cross-section of portfolio-sorted and of bilateral currency returns. Our results rest on minimal theoretical restrictions but can be interpreted in a habit formation m Show more