A Market-based Measure for Currency Risk in Managed Exchange Rate Regimes

We introduce a novel currency risk measure based on American Depositary Receipts (ADRs). Using an augmented ADR pricing model, we exploit investors' exposure to potential devaluation losses to derive an indicator of currency risk. Using weekly data for a sample of 807 ADRs located in 21 emerging markets over the 1994-2014 period, we find that a deterioration in the fiscal and current account balance, as well as higher inflation, increases currency risk. Interaction models reveal that the effects of these macroeconomic fundamentals on currency risk depend on the country's sovereign rating, the level of foreign reserves, capital openness and the exchange rate regime