Specialized International Equity Investment With Forward Foreign Exchange Trading: A U. S. Viewpoint

Abstract

Assuming risk-neutrality and the random walk model we derive a rule-of-thumb that periodically selects the appropriate foreign stock index and is either long or short foreign currency contracts.  The empirical results of testing the rule-of-thumb with an investment universe of six major foreign equity markets show that our rule-of-thumb provides performance superior to investing in foreign stock indices alone.  In addition, we test and reject the Unbiased Forward Rate Hypothesis (UFRH) in favor of the Random Walk Hypothesis (RWH).