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Emerging markets and portfolio foreign exchange risk: An empirical investigation using a value-at-risk decomposition technique

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  • Sirr, Gordon
  • Garvey, John
  • Gallagher, Liam

Abstract

The correlation between a portfolio's equity and foreign exchange components plays a role in reducing foreign exchange exposure. Investors must account for this correlation when determining the extent of foreign exchange risk in emerging market equity portfolio investments. This study employs a VaR risk factor mapping technique, under the variance–covariance VaR approach, to decompose portfolio risk in Argentina, Brazil, China, India, Mexico and Russia. For comparison purposes, the same technique is used to decompose portfolio risk in the US. The study is conducted from the perspective of a European equity investor with a portfolio of equities in each country. By employing the VaR decomposition technique, the correlation between a portfolio's equity and foreign exchange components is taken into account and portfolio foreign exchange risk is extracted from portfolio systematic risk. Our results uniquely demonstrate significant variation in foreign exchange risk in emerging markets.

Suggested Citation

  • Sirr, Gordon & Garvey, John & Gallagher, Liam, 2011. "Emerging markets and portfolio foreign exchange risk: An empirical investigation using a value-at-risk decomposition technique," Journal of International Money and Finance, Elsevier, vol. 30(8), pages 1749-1772.
    • Handle: RePEc:eee:jimfin:v:30:y:2011:i:8:p:1749-1772
    DOI: 10.1016/j.jimonfin.2011.08.002
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    1. Marouane Airouss & Mohamed Tahiri & Amale Lahlou & Abdelhak Hassouni, 2018. "Advanced Expected Tail Loss Measurement and Quantification for the Moroccan All Shares Index Portfolio," Mathematics, MDPI, vol. 6(3), pages 1-19, March.
    2. Blanka Francová, 2017. "Valuation of Government Bonds: the Exchange Rate Is an Important Aspect," Acta Universitatis Agriculturae et Silviculturae Mendelianae Brunensis, Mendel University Press, vol. 65(6), pages 1911-1916.
    3. Kodongo, Odongo & Ojah, Kalu, 2014. "The conditional pricing of currency and inflation risks in Africa's equity markets," MPRA Paper 56100, University Library of Munich, Germany.
    4. Kris Boudt & Hong Anh Luu, 2022. "Estimation and decomposition of food price inflation risk," Statistical Methods & Applications, Springer;Società Italiana di Statistica, vol. 31(2), pages 295-319, June.
    5. Kodongo, Odongo & Ojah, Kalu, 2014. "Conditional pricing of currency risk in Africa's equity markets," Emerging Markets Review, Elsevier, vol. 21(C), pages 133-155.
    6. Blanka Francová, 2018. "An Analysis of the Impact of Selected Factors on the Bond Market," Acta Universitatis Agriculturae et Silviculturae Mendelianae Brunensis, Mendel University Press, vol. 66(6), pages 1451-1458.

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