Currency risk premia and uncovered interest parity in the International CAPM

Zero-investment uncovered interest parity (UIP) portfolio positions provide perfect factor-mimicking portfolios for currency risk in the International CAPM context. Their returns are the currency risk premia. Since the UIP positions on average provide low returns, the currency risk premia must be low so that currency risk appears not to be priced in an unconditional model. However, previous research has shown that UIP returns are predictable …