Thread by @HyunSongShin

The financial channel of exchange rates operates through the risk capacity of market participants and shows up in the response of financial conditions to exchange rate movements

This new BIS Working Paper shows that the channel operates for stock returns, too

A thread:

First finding:

Dollar-denominated returns tend to be an amplified version of the local currency-denominated returns; both the gains and losses are magnified when converted into dollar returns

Hence the "dollar return multiplier"

The dollar return multiplier comes about because stock returns tend to be positive when the local currency is appreciating against the dollar and negative when it's depreciating

This correlation turns out to be a remarkably robust feature of the data

The broad dollar index emerges as a global factor encapsulating the financial channel; it beats the bilateral exchange rate as an explanatory variable; echoing recent burgeoning research on international finance

@m_maggiori @WenxinDu @helene_rey @pogourinchas @GitaGopinath

All this culminates in the "dollar beta", defined as the loading of stock returns on the percentage decline of the broad dollar index

A stock with a high dollar beta is one whose return rises more with a larger broad depreciation of the dollar

In short, the dollar beta is an asset pricing factor, in the spirit of the Capital Asset Pricing Model (CAPM)

For those who want to dig deeper on the underlying economics, this lecture at the LSE in 2016 may be a useful place to start:
bis.org/speeches/sp161…

The economics runs through the changing nature of financial intermediation;

Just as the VIX was a good summary measure of the price of balance sheet before the GFC, so the dollar has become a good measure of the price of balance sheet after the GFC

"The mantle of the barometer of risk appetite and leverage has slipped from the VIX, and has passed to the dollar"
bis.org/speeches/sp161…

@darioperkins @Frances_Coppola @EtraAlex @jnordvig

For instance, here is the FX basis, for which the dollar beta acts as a cross-section asset pricing factor

bis.org/publ/work592.h…

@WenxinDu

On a personal note, I am delighted that the dollar beta paper will be part of the launch of Oxford Open Economics, the new open journal edited by @upanizza

I wish this exciting venture fair wind in its sails

academic.oup.com/ooec