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Is the Carry Trade strategy an explanation of the Uncovered Interest Parity puzzle?

Albertsson, Benjamin LU (2018) NEKH02 20172
Department of Economics
Abstract
This paper examines the uncovered interest rate parity (UIP) and extends the analysis in Spronk, Verschoor and Zwinkels (2013) by looking at the UIP between Sweden and the United Kingdom. The flaws of the UIP and the reasons for why it does not seem to hold, has been called the UIP puzzle. The thesis tests if the UIP puzzle can be explained by constructing a heterogeneous agent model with a carry trader and a fundamental trader, trading with the expectation that the UIP holds. The results of the paper show that the UIP puzzle can partially be explained by the existence of carry traders in the market. A positive interest rate differential will impact the currency of the high-interest rate country to appreciate, a movement which is... (More)
This paper examines the uncovered interest rate parity (UIP) and extends the analysis in Spronk, Verschoor and Zwinkels (2013) by looking at the UIP between Sweden and the United Kingdom. The flaws of the UIP and the reasons for why it does not seem to hold, has been called the UIP puzzle. The thesis tests if the UIP puzzle can be explained by constructing a heterogeneous agent model with a carry trader and a fundamental trader, trading with the expectation that the UIP holds. The results of the paper show that the UIP puzzle can partially be explained by the existence of carry traders in the market. A positive interest rate differential will impact the currency of the high-interest rate country to appreciate, a movement which is contradictory to what the UIP predicts. For future studies within the topic, researchers should carefully consider what agents that have the biggest impact in exchange rate markets and thereby possibly be included in the model. (Less)
Please use this url to cite or link to this publication:
author
Albertsson, Benjamin LU
supervisor
organization
course
NEKH02 20172
year
type
M2 - Bachelor Degree
subject
keywords
Uncovered interest rate parity, UIP puzzle, Carry trade.
language
English
id
8934991
date added to LUP
2018-02-19 10:27:55
date last changed
2018-02-19 10:27:55
@misc{8934991,
  abstract     = {{This paper examines the uncovered interest rate parity (UIP) and extends the analysis in Spronk, Verschoor and Zwinkels (2013) by looking at the UIP between Sweden and the United Kingdom. The flaws of the UIP and the reasons for why it does not seem to hold, has been called the UIP puzzle. The thesis tests if the UIP puzzle can be explained by constructing a heterogeneous agent model with a carry trader and a fundamental trader, trading with the expectation that the UIP holds. The results of the paper show that the UIP puzzle can partially be explained by the existence of carry traders in the market. A positive interest rate differential will impact the currency of the high-interest rate country to appreciate, a movement which is contradictory to what the UIP predicts. For future studies within the topic, researchers should carefully consider what agents that have the biggest impact in exchange rate markets and thereby possibly be included in the model.}},
  author       = {{Albertsson, Benjamin}},
  language     = {{eng}},
  note         = {{Student Paper}},
  title        = {{Is the Carry Trade strategy an explanation of the Uncovered Interest Parity puzzle?}},
  year         = {{2018}},
}