The Determinants of Risk Premia in Forward Foreign Exchange (FX) Markets

In this paper we reconsider the Fama (1984)¡¯s seminal paper and we make extensions. We take into account for ARMA dynamics and ARCH-M effects in exchange rates and we introduce in equation regressions a proxy for the liquidity. We find out that the differenced relative bid-ask spread is a significant determinant of forward risk premia. In addition we evidence the outperformance of the multimarket hypothesis vs the single market hypothesis and the existence of common factors between forward risk premia in the EUR/USD, EUR/GBP and EUR/JPY forward exchange rates.