Scandinavian Working Papers in Business Administration
Working Papers,
Örebro University, School of Business
No 2025:10: Long-Run Interest Rate Differentials and the Profitability of Currency Carry
Mohammed Mehdi Kaebi () and Igor Ferreira Batista Martins ()
Additional contact information
Mohammed Mehdi Kaebi: Insper - Instituto de Ensino e Pesquisa, Postal: Insper, Rua Quat´a, 300, Sao Paulo, Brazil
Igor Ferreira Batista Martins: Örebro University School of Business, Postal: Örebro University, School of Business, SE - 701 82 ÖREBRO, Sweden
Abstract: This paper examines the role of long-run and cyclical components of interest rate differentials in explaining the returns to currency carry strategies. We show that long-run differentials account for most of the profitability, while cyclical differentials play only a limited role. A simple strategy that goes long currencies above the median long-run differential and shorts those below delivers a statistically and economically significant annualized excess return of 2.48%. Relative to traditional carry, our strategy achieves a higher Sharpe ratio, lower turnover and a less negative skewness. We introduce a new tradable carry factor that explains the cross section of currency returns beyond the benchmark carry factor.
Keywords: Carry trade; currencies; long-run interest rates; trend-cycle decomposition.
Language: English
18 pages, September 26, 2025
Full text files
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