Download or read book A Sentiment-Based Explanation of the Forward Premium Puzzle written by Jianfeng Yu and published by . This book was released on 2015 with total page 51 pages. Available in PDF, EPUB and Kindle. Book excerpt: A sentiment-based model of the exchange rate is proposed to understand the forward premium puzzle. Agents over- or underestimate the growth rate of the economy. All else equal, when perceived domestic growth is higher than perceived foreign growth, the domestic interest rate is higher than the foreign interest rate. At the same time, an econometrician would expect an increase in the home currency value. Together, the model with investor misperception can account for the forward premium puzzle. In addition, it helps lower correlation between consumption growth differentials and exchange rate growth. Finally, this paper provides empirical evidence supporting the mechanism in the sentiment-based explanation.