Option implied risk measures and carry trade returns: An application to emerging markets

In this study, it is aimed to examine the relationship between the returns of carry trade investments in developing currencies and its implied moment risk measures. For this purpose, daily returns of carry trade investment for 17 developing countries by borrowing USD, EUR and JPY are examined for the period between July 1, 2013 and December 31, 2022. Bakshi, Kapadia and Madan model is used to obtain implied moments as the explanatory variables of the study. In the study, the relationship between excess returns and forward premium is examined with Fama regression; the relationship between excess returns and implied moments is examined with Fama-Macbeth regression and fixed effects models. It is concluded that portfolios created with the information from implied moments provide more excess returns to the investor compared to traditional carry trade strategies. According to the excess returns of the constructed portfolios, it has been concluded that implied moment strategies are very beneficial strategies for carry trade investment. The results obtained from the regression models show that impleid moment risk measures can predict the returns of carry trade investments quite successfully.