European Capital Markets with a Single Currency

By Jean Dermine; Pierre Hillion | Go to book overview
Save to active project

union would eliminate exchange rate risk. If a risk premium does exist for exchange rate risk, than a benefit of monetary union would be the potential elimination of the associated risk premium in companies' borrowing costs.

We examine whether credit returns are related to foreign exchange changes after controlling for other sources of systematic risk. The relationship between credit returns and the different risk factors is explored at different holding-period horizons. We first examine the systematic factors which affect credit returns. The factors we choose are related to interest rates, stock market returns, and exchange rates. We assume a linear pricing relation between credit returns and the above factors. Regressions are performed to determine which factors are significantly related to credit returns. The resulting factor loadings are inputs to an unconditional multivariate asset pricing model.

The results show a significant negative relationship between credit returns and the term spread. The slope of the term structure is found to be significant at the longest horizon while the excess stock market factor is weakly significant across currencies and horizons. The results show that credit returns are affected by interest rates and to a lesser extent by excess stock returns.

We find that credit returns of corporate bonds are not related to exchange rates at short to medium horizons. This result is consistent across currencies. The results for the longest horizon, one year, show evidence of a significant relationship between exchange rates and credit returns. We check to see whether this result is robust to the definition of the exchange rate factor. We analyse two alternative exchange rate factors and find similar results to the trade-weighted index factor.

The conclusion we draw is that there is a negligible relationship between credit returns and exchange rates for short or medium horizons. Only at the longest horizon studied is there some evidence of exchange rates affecting credit returns. Although whether this risk is priced remains an open question, given their small exposure, the impact of currency union on the borrowing costs of companies will most likely be small.


Campbell, John Y. ( 1987), "'Stock Returns and the Term Structure'", Journal of Financial Economics, 18: 373-99.

Chang, Eric C. and Roger D. Huang ( 1990), "'Time Varying Return and Risk in the Corporate Bond Market'", Journal of Financial and Quantitative Analysis, 25: 322-40.

Chow, Edward H., Wayne Y. Lee and Michael E. Solt ( 1997), "'The Exchange-Rate Risk Exposure of Asset Returns'", Journal of Business, 70: 105-23.

Coleman, T. S., L. Fisher and R. G. Ibbotson ( 1992), "'Estimating the Term Structure of Interest Rates from Data that Includes the Prices of Coupon Bonds'", Journal of Fixed Income 2: 85-116.

Connor, G. and R. A. Koraczyk ( 1989), "'Risk and Return in an Equilibrium APT'", Journal of Financial Economics, 21: 255-89.


Notes for this page

Add a new note
If you are trying to select text to create highlights or citations, remember that you must now click or tap on the first word, and then click or tap on the last word.
Loading One moment ...
Project items
Cite this page

Cited page

Citations are available only to our active members.
Sign up now to cite pages or passages in MLA, APA and Chicago citation styles.

Cited page

Bookmark this page
European Capital Markets with a Single Currency


Text size Smaller Larger
Search within

Search within this book

Look up

Look up a word

  • Dictionary
  • Thesaurus
Please submit a word or phrase above.
Print this page

Print this page

Why can't I print more than one page at a time?

While we understand printed pages are helpful to our users, this limitation is necessary to help protect our publishers' copyrighted material and prevent its unlawful distribution. We are sorry for any inconvenience.
Full screen
/ 364

matching results for page

Cited passage

Citations are available only to our active members.
Sign up now to cite pages or passages in MLA, APA and Chicago citation styles.

Cited passage

Welcome to the new Questia Reader

The Questia Reader has been updated to provide you with an even better online reading experience.  It is now 100% Responsive, which means you can read our books and articles on any sized device you wish.  All of your favorite tools like notes, highlights, and citations are still here, but the way you select text has been updated to be easier to use, especially on touchscreen devices.  Here's how:

1. Click or tap the first word you want to select.
2. Click or tap the last word you want to select.

OK, got it!

Thanks for trying Questia!

Please continue trying out our research tools, but please note, full functionality is available only to our active members.

Your work will be lost once you leave this Web page.

For full access in an ad-free environment, sign up now for a FREE, 1-day trial.

Already a member? Log in now.

Are you sure you want to delete this highlight?