First‐ and Second‐Moment Exchange Rate Exposure: Evidence from U.S. Stock Returns

Abstract

This study investigates the impact of first-and second-moment exchange rate exposure on the daily returns of nine U.S. sectors from 1992 to 1998. In 17.8% of the cases we detect significant first-moment exposure when contemporaneous exchange rates are used. Moreover, 25.0% of the significant exposures are asymmetric. When the model utilizes one-day lags, 42.2% of the cases are significant and 79.0% are asymmetric. Regarding second-moment exposure, the financial sector displays pervasive sensitivity to exchange rate volatility when using contemporaneous and lagged models. This result is reasonable, assuming that revenues from the sale of derivative products increase with currency volatility.

Exchange rate risk and the equity performance of financial intermediaries

“…. This is in contrast to Koutmos and Martin (2003) who find evidence of a strong and positive link between home currency variability and the performance of U.S. financial institutions during 1992-98. They argue that the positive relationship is because greater variation in currency values induces more hedging, which increases the profit of underwriters (e.g.…”

“…Elsewhere, others suggest that firm's value only reacts to unexpected changes in currency value (Chow et al, 1997a(Chow et al, , 1997b. Tai (2000) and Koutmos and Martin (2003), for instance, propose the use of estimated residuals from an autoregressive model to represent the unexpected changes in risk. Unlike previous studies, Kolari et al (2008) and Choi and Jiang (2009) adopt an alternative specification by adding the home currency changes to the Fama and French (1993) model to evaluate currency exposure.…”

Unremunerated reserve requirements, exchange rate volatility, and firm value

“…More specifically, Kearney (1998) finds that during 1974-1994 the exchange rate volatility appears to influence the Irish stock market volatility. Koutmos and Martin (2003) find a negative relationship between the exchange rate volatility and the US stock index return during the sample period of 1992-1998. However, some scholars such as Devereux and Engel (2003) suggest that exchange rate volatility does not necessarily cause a negative effect on the domestic economy under certain circumstances.…”

“…As the standard deviation is the simplest possible measure of unconditional volatility, the 10-day volatility measure represents the short run unconditional volatility of the Thai baht against the US dollar. Our specification of the exchange rate volatility is similar in spirit to the time-varying exchange rate volatility of Koutmos and Martin (2003). Regression (2) is estimated using daily data.…”

“…To examine the effect of exchange rate volatility on stock prices, we adopt augmented market models that are used in the exchange rate exposure literature by scholars such as Koutmos and Martin (2003) and Chue and Cook (2008). We find that there are a number of firms with significant coefficients of the URR dummy variable in our regression analyses.…”