Carry Trade: The Gains of Diversification

Abstract

Market participants routinely take advantage of the failure of uncovered interest rate parity to speculate in currency markets. Perhaps the most widely used currency speculation strategy is the carry trade. In this article we take the perspective of an individual currency trader and document the gains to diversifying the carry trade across different currencies. We show that these gains are large. Diversification boosts the typical Sharpe ratio by over 50%.

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