In a second step, Maggiori then estimates the risk price coefficient and finds a positive and significant value. His results clearly show that this conditional covariance peaks in times of crisis, meaning that investors expect strong appreciations of the USD after negative stock market shocks. In a first step, he calculates an estimate for the conditional covariance between a USD exchange rate index and the MSCI stock market return index. Maggiori (2013) presents promising results. As compared to a GARCH approach, such a setup imposes less structure on the dynamics of the conditional covariance and has a higher flexibility. In a recent paper, however, Maggiori (2013) calculates the US dollar (USD) safety premium using another estimation methodology, based on the three-step instrumental variable approach developed by Duffee (2005). An obvious way to estimate such a model would be to use a multivariate GARCH process, as has for example been done by De Santis and Gérard (1998). While the focus of the recent empirical literature mainly lies on the analysis of unconditional safety premiums and ex-post currency excess returns, I make an attempt to calculate the time-varying Swiss franc safety premium, based on the conditional version of an International Capital Asset Pricing Model. Furthermore, the safety premium is a priced factor that can be reflected in many internationally traded assets. Hence, its dynamics will have major implications for monetary policy makers. Given Switzerland’s strong trade linkages with the rest of the world, variations in the Swiss franc exchange rate are not only an important factor in determining the profitability of Switzerland’s major export-oriented sector, but are also an important factor in determining domestic inflation. Studying the potential safety premium of the Swiss franc might help to understand the dynamics of the Swiss franc exchange rate. One objective of this paper is to examine whether the Swiss franc earns a safety premium and to give an idea about its approximate size. And as the willingness to short a safe currency decreases during risky episodes, we would expect this safety premium to be time-varying and to reach its highest values during periods of crises. Major exchange rate interventions by the Swiss National Bank did not lead to the desired tension release, so that in September 2011, fearing an overvaluation of its currency, the Swiss central bank announced a lower bound of 1.20 on the EUR/CHF exchange rate.Ī currency that has a general tendency to appreciate during episodes of intense crisis and offer hedging value against global risk is a currency that we would expect to earn a safety premium, defined as the compensation that investors require to short a safe currency and invest in a basket of foreign currencies. It appreciated against the euro (EUR) by almost 40% within the relatively short time span of only 3 years. The recent financial crisis and the subsequent European sovereign debt crisis provoked a large flight to quality among investors and caused strong upward pressure on the Swiss franc (CHF).
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