US dollar exchange rate and food price dependence: Implications for portfolio risk management

•We use copulas to study the relationship between the USD and food markets.•We find evidence of weak average dependence and tail independence.•Food price spikes, except for soybeans, are not driven by extreme USD depreciation.•USD is effective in hedging and in reducing downside food price risk.

This paper uses copulas to study the relationship between the US dollar (USD) exchange rate and prices for food (corn, soybeans, wheat and rice). A number of different copula specifications with different conditional dependence structures and time-varying dependence parameters were employed in the research. Empirical results for weekly data for the period January 1998–October 2012 provided evidence of positive and weak food-USD dependence and no extreme market dependence for corn, wheat and rice, thus confirming that price spikes for these foods were not caused by extreme USD depreciation. For soybeans, however, we found evidence of positive average dependence and asymmetric tail dependence, with positive upper tail dependence confirming the contribution of USD depreciation to soybean price spikes. Given that food commodities are undergoing a financialization process, we also examined the implications of USD links with food prices for food risk policy management. We provide evidence of USD hedging effectiveness in reducing food portfolio risk and downside food risk and also of better overall performance in terms of the investor's loss function than a food-only portfolio.