Abstract
A simple dividend-based currency strategy, which shorts a currency on the date its country’s recent aggregate dividend payment by listed companies is large, exhibits a significant Sharpe ratio and alpha not explained by standard FX factors. To understand this anomaly, I empirically identify the significant price impact of predetermined dividend payments on exchange rates around payment dates. I propose the dividend repatriation channel where benchmark investors (ETFs & mutual funds) predictably repatriate a certain proportion of dividends received in local currency due to the cash dividend treatment in the equity index methodology. I build a model in which heterogeneous financial intermediaries with limited risk-bearing capacity accommodate benchmark investors’ currency demands stemming from dividend repatriation flows. In line with the model’s implications, I find that the price impact of dividend flows on FX around the payment date is large when the intermediary capital ratio is low, the CIP deviation is large, and the FX implied volatility is high. I conclude by discussing the implications of my findings on currency market elasticity, capital regulations, and FX regimes.

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