The "Greatest" Carry Trade Ever? Understanding Eurozone Bank Risks / Viral V. Acharya, Sascha Steffen.

Format:

Book

Author/Creator:

Acharya, Viral V.

Contributor:

National Bureau of Economic Research.

Steffen, Sascha.

Series:

Working Paper Series (National Bureau of Economic Research) no. w19039.

NBER working paper series no. w19039

Language:

English

Physical Description:

1 online resource: illustrations (black and white);

Place of Publication:

Cambridge, Mass. National Bureau of Economic Research 2013.

Summary:

We show that Eurozone bank risks during 2007-2012 can be understood as a "carry trade" behavior. Bank equity returns load positively on peripheral (Greece, Ireland, Portugal, Spain and Italy, or GIPSI) bond returns and negatively on German government bond returns, a position that generated "carry" until the deteriorating GIPSI bond returns inflicted losses on banks. The positive GIPSI loadings correlate with banks' holdings of GIPSI bonds; and, the negative German loading with banks' short-term debt exposures. Consistent with moral hazard in the form of risk-taking by large, under-capitalized banks to exploit government guarantees, arbitrage regulatory risk weights, and access central-bank funding, we find that this carry-trade behavior is stronger for large banks, and banks with low Tier 1 ratios and high risk-weighted assets, in both GIPSI and non-GIPSI countries' banks, but not so for similar banks in other Western economies or for non-bank firms.

Notes:

Print version record

May 2013.