Multi-Elements of Exchange Rate Exposure : Evidence from Japanese Sectoral Returns

This paper examines the adequacy of the exposure coefficient/beta in measuring the entire impact of exchange rate changes on firms' future operating cash flows. To this end, we investigate the presence of four elements of exchange rate exposure: (a) sensitivity of stock returns to exchange rate changes; (b) sensitivity of stock returns to the volatility of exchange rate changes; (c) sensitivity of conditional variance of returns to exchange rate volatility; and (d) dynamic conditional correlation between returns and exchange rate changes. A bivariate GJR-GARCH-M model is employed to investigate all such elements of exchange rate exposure. We uncover significant evidence for the presence of multi-elements of exchange rate exposure, some of which are not captured by the conventional measure of exposure. The paper contributes to the literature by suggesting a theoretical improvement in the area of measuring exchange rate exposure and citing evidence in support of it