Price trends in FX-markets A study of the Trend Factor on foreign exchange markets

Abstract

This thesis explores the performance of the trend factor in the foreign exchange (FX) market from January 1995 to January 2024, comparing it with traditional momentum and carry trade strategies. Our result indicate that the trend factor significantly outperforms benchmark strategies, yielding an annualized mean excess return of approximately 10% with a Sharpe ratio of 1,21, despite challenges such as portfolio biases towards emerging market currencies. Notably, the trend factor exhibits low correlation with the carry trade, suggesting its potential for portfolio diversification. However, caution is advised when combining it with short-term momentum strategies due to potential exposure overlap. While transaction costs and tilt towards emerging market currencies remain concerns, recent improvements in market structure enhance the robustness of the trend factor's performance. Future research could include exploring its applicability across asset classes and incorporating additional economic factors beyond price trends.