Is there a credit risk anomaly in FX markets?

•Currency portfolios of high credit risk countries generate low returns.•Currencies portfolios of low credit risk countries generate high returns.•Spread is statistically significant and unrelated to recessions.•Spread cannot be explained by standard risk factors.

This paper explores whether a link between sovereign credit ratings and currency returns exists. Perhaps contrary to expectations, it finds that currencies of countries with higher credit risk tend to generate lower returns than those with a lower credit risk. The credit risk spread cannot be explained by standard risk factors.