Working Papers | Ric Colacito

What Is a Currency Worth?
Introducing a new method to compute exchange rate levels implied by a given pricing model, we find that a two-factor model of the global equity market and a value factor generates the closest fit to observed market exchange rates. The associated measure of misvaluation predicts currency returns at short and long horizons, and skewness in carry trade portfolios. We apply the method to the Chinese yuan and find substantial undervaluation between 2010 and 2015, and a sharp collapse of the model-implied exchange rate to the market exchange rate with the start of tightening U.S. monetary policy in 2022. (with Thummim Cho, Lukas Kremens, and Mirela Sandulescu) Latest update: 3/2026

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The POP Premium
We construct a Populism Index (POP) from over one million Wall Street Journal articles from 1984 to 2024 using large language models to quantify populism related sentiment in U.S. media. Firms’ exposures to changes in populist sentiment is a priced risk in the cross-section of equity returns: stocks with low POP betas earn significantly higher returns, yielding an annualized excess return of about 8%, unexplained by standard risk factors. The premium exists before the 2016 surge in populism, persists under both Republican and Democratic administrations, and is absent in earlier bag-of-words indices, highlighting that populism represents a distinct, state-dependent source of systematic risk in equity markets. (with Hui Ding, Fuwei Jiang, and Yan Qian) Latest update: 11/2025

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We develop novel high-frequency indices that measure climate attention, covering a wide range of both developed and emerging economies. This is achieved by analyzing the text of nearly 24 million tweets published by leading national newspapers on Twitter during the period from 2014 to 2022. Our findings reveal that a country experiencing more severe climate news shocks tends to see both an inflow of capital and an appreciation of its currency. These outcomes align with the expectations of a risk-sharing model in which investors price climate news shocks, engage in the trade of both consumption and investment goods, and take into account the heterogeneity in the exposure to climate risk in the cross-section of countries. (with MaJo Arteaga-Garavito, Max Croce, and Biao Yang) Latest update: 1/2024

International Climate News

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Robust Exchange Rates and the International Entropy Frontier

In this study, we present a model of international risk-sharing. Our model operates within a frictionless general equilibrium setting, where two agents engage in trade. These consumers exhibit a preference for robustness and trade in two consumption goods along with a complete set of date- and state-contingent securities. The inclusion of consumption home bias and a focused concern on the temporal distribution of entropy contribute to the emergence of complex endogenous dynamics. These dynamics significantly affect the higher moments of both international prices and quantities, highlighting the intricate interactions between consumption preferences, risk-sharing mechanisms, and global market movements. This model sheds light on the nuanced ways in which global trade patterns and financial markets are influenced by underlying risk and preference structures. (with Max Croce). Latest draft: 2/2015.

Robust Exchange Rates and the International Entropy Frontier

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Six Anomalies looking for a model

When the dynamics of consumption growth in two countries include small and highly persistent predictable components and agents display a preference for the timing of the resolution of uncertainty, it is possible to explain a large number of international finance puzzles. This includes the relatively small volatility of the growth rate of the US dollar, the high correlation of stock markets returns paired with a modest degree of co-movement of fundamentals and the low correlation between consumption growth differentials and the depreciation of the exchange rate. When stochastic volatility is also assumed to be a factor in accounting for the dynamics of consumption growth, then the forward premium anomaly can also be accounted for by the model. Latest draft: 11/2014.

Six Anomalies looking for a model

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On the Existence of the Exchange Rate When Agents Have Complete Home Bias and Non-Time Separable Preferences

Colacito and Croce (2006) study the dynamics of the growth rate of the real exchange rate, when the preferences of the representative consumers in the two countries are defined only over the domestic good and characterized by non-time separability a la Epstein and Zin (1989). This paper shows that an equilibrium of this economy exists in which exchange rates are well defined and it can be interpreted as the limiting case of an economy in which preferences are defined over both domestic and foreign goods. Latest draft: 1/2009.