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Explaining Forward Exchange Bias . . . Intraday

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  • Lyons, Richard K
  • Rose, Andrew K

Abstract

Intraday interest rates are zero. Consequently, a foreign exchange dealer can short a vulnerable currency in the morning, close this position in the afternoon, and never face an interest cost. This tactic might seem especially attractive in times of fixed-rate crisis, since it suggests an immunity to the central bank's interest rate defense. In equilibrium, however, buyers of the vulnerable currency must be compensated on average with an intraday capital gain as long as no devaluation occurs. That is, currencies under attack should typically appreciate intraday. Using data on intraday exchange rate changes within the European Monetary System, we find this prediction is borne out. Copyright 1995 by American Finance Association.

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Article provided by American Finance Association in its journal Journal of Finance.

Volume (Year): 50 (1995)
Issue (Month): 4 (September)
Pages: 1321-29

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Handle: RePEc:bla:jfinan:v:50:y:1995:i:4:p:1321-29

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  1. Richard K. Lyons, 1993. "Tests of Microstructural Hypotheses in the Foreign Exchange Market," NBER Working Papers 4471, National Bureau of Economic Research, Inc.
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Cited by:
  1. Alain P. Chaboud & Jonathan H. Wright, 2003. "Uncovered interest parity: it works, but not for long," International Finance Discussion Papers, Board of Governors of the Federal Reserve System (U.S.) 752, Board of Governors of the Federal Reserve System (U.S.).
  2. Pasricha, Gurnain Kaur, 2006. "Survey of Literature on Covered and Uncovered Interest Parities," MPRA Paper 22737, University Library of Munich, Germany.

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