Beta’em Up: What is Market Beta in FX?

Beta is generally considered a measure of an instrument’s risk in comparison to the overall risk of an industry or portfolio. There are structural limitations of the FX market which complicate the standardization of a particular measure for beta. As FX is a decentralized market with varying risks between currencies, defining the market beta is difficult. In this paper, Saeed Amen uses several generic FX styles to replicate the returns of an average FX investor and compares these to estimate market beta. The S&P500 is used as a representative comparison to a generic G10 carry strategy because of the similarities of the returns and drawdowns between the index and the strategy.

Amen tests three common FX strategies: a generic carry strategy in which the 3 highest (lowest) yielding currencies within G10 are bought (sold), which is used to identify periods of outperformance and underperformance; an FX trend following strategy involving a moving average; and an FX value strategy which buys currencies when they are greater than 20% overvalued and sells when they are more than 20% undervalued and in all other instances remains flat. The relationship between bank indices for FX carry and FX trend is compared to the generic FX carry and trend strategies. The correlation between the indices and the strategies was volatile yet considerable in some cases.

The three strategies are combined into a portfolio which when tested provides risk-adjusted returns of .064. The results of this study show that the combination of FX carry and FX trend strategies can be used to create a portfolio to represent beta for the FX market. Read the full study by Saeed Amen.


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