Empirical evidence on the currency carry trade, 1900–2012

•The annual excess return on the currency carry trade is 2.4 percent over 1901–2012.•The annual Sharpe ratio on the currency carry trade is 0.26 over 1901–2012.•The carry trade experienced losses exceeding 10 percent in 6 out of 112 years.•Currency carry and equity market crashes only coincide half the time.•Trading on real and nominal interest differentials has been equally profitable.

Most of the currency literature investigates the risk and return characteristics of the currency carry trade after the collapse of the Bretton Woods system. In order to gauge the long-term currency carry premium, we extend the sample to 20 currencies over the period 1900 to 2012. We find modest Sharpe ratios in the range of 0.2–0.4 for carry trading over this period. This is markedly lower than the Sharpe ratios above 0.6 reported for recent sample periods. We document that carry trading occasionally incurs substantial losses, which fits well with risk-based explanations for deviations from uncovered interest parity. We find that large carry trading losses do not necessarily coincide with large losses in global equity markets. Our results help to better understand the source and nature of excess returns on the carry trade.