Are Currencies a Standalone Asset Class for Investors?

By
Tarun Ramadorai, professor of financial economics at Saïd Business School at the University of Oxford

Speaking at the 2014 European Investment Conference, Tarun Ramadorai, professor of financial economics at the Saïd Business School, argued that currencies are increasingly seen as a standalone asset class for investors to consider as they build their portfolios. Ramadorai believes that currencies can be used in a “smart way to put together a portfolio that can be a complement with other portfolios in a variety of countries.”

This particularly well-attended session evaluated trends in the broader markets before diving into more technical aspects of various currency strategies. Ramadorai marvelled at how the last five years have seen a large expansion in the academic literature about the use of currencies as an independent strategy as well as a substantial increase in practitioner interest through exchange-traded funds (ETFs) and retail customer products. What this has shown is that investors are increasingly trading currencies in the same way they trade value and growth stocks strategies.

Ramadorai highlighted that analysis of various trading strategies has shown that investors don’t always need to include volatile emerging market equities in their portfolios to get outsized returns in a market dominated by a desperate search for yield. Strategies that have focused solely on G–10 developed nations have also been shown to provide strong returns for investors, he added.

Although Ramadorai discussed the most popular of currency strategies — the currency carry trade — the core of the presentation focused on some of the lesser utilised currency strategies and how they can be used separately or in combination to complement investor portfolios. Ramadorai considered both value and momentum strategies for currencies and how they have been shown to exhibit many of the same characteristics as the strategies for equity markets. This in turn, he argued, may mean that by looking at the currency markets, we might be able to gain some insight into the future behaviour of the equity markets.

The presentation explored Ramadorai’s work on the volatility risk premium strategy, which is based on determining if options for a particular currency are historically expensive or cheap to recent history for a currency. He contended that if some currencies are cheap or expensive, as determined relative to their recent performance, this might tell the investor something about the expectations in the currency market and how it will perform in the future.

In conclusion, Ramadorai pointed to evidence that suggests that currency strategies as a standalone investment can be quite valuable. But as important, he added, the analysis has shown that there is the possibility to achieve potential diversification gains from combining the various currency strategies.

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Please note that the content of this site should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute.

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