Asset Price-Based Estimates of Sterling Exchange Rate Risk Premia
U.K. pound exchange rate risk premia are constructed using a conditional factor model for the stochastic discount factor, with the discount factor depending on the real return on a ‘worldwide’ stock portfolio and ‘worldwide’ industrial production growth, and time-varying model parameters that depend on the slope of the ‘world’ term structure of interest rates and the price/earnings ratio that corresponds with the ‘worldwide’ stock portfolio. Published in the Journal of International Money and Finance, 2006.