Lustig, HannoRoussanov, NikolaiVerdelhan, Adrien2023-05-222023-05-222011-01-012016-06-08https://repository.upenn.edu/handle/20.500.14332/34438We identify a “slope” factor in exchange rates. High interest rate currencies load more on this slope factor than low interest rate currencies. This factor accounts for most of the cross-sectional variation in average excess returns between high and low interest rate currencies. A standard, no-arbitrage model of interest rates with two factors—a country-specific factor and a global factor—can replicate these findings, provided there is sufficient heterogeneity in exposure to global or common innovations. We show that our slope factor identifies these common shocks, and we provide empirical evidence that it is related to changes in global equity market volatility. By investing in high interest rate currencies and borrowing in low interest rate currencies, U.S. investors load up on global risk.This is a pre-copyedited, author-produced PDF of an article accepted for publication in Review of Financial Studies following peer review. The version of record is available online at: http://dx.doi.org/10.1093/rfs/hhr068.FinanceFinance and Financial ManagementArticle