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Informational integration and FX trading

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  • Evans, Martin D. D.
  • Lyons, Richard K.

Abstract

This paper addresses international financial integration in a new way. We focus on informational integration, specifically, the importance of information conveyed by order flow in major currencies for pricing minor currencies. We develop a multi-currency model of portfolio allocation in the presence of dispersed information. We then test the model’s implications using four months of concurrent transaction data on nine currencies. The model explains 45 to 78 percent of daily returns in all nine currencies. Moreover, its prediction that order flow in individual markets should be relevant for determining prices in other markets is borne out.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of International Money and Finance.

Volume (Year): 21 (2002)
Issue (Month): 6 (November)
Pages: 807-831

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Handle: RePEc:eee:jimfin:v:21:y:2002:i:6:p:807-831

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Web page: http://www.elsevier.com/locate/inca/30443

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  1. Frankel, Jeffrey A. & Rose, Andrew K., 1995. "Empirical research on nominal exchange rates," Handbook of International Economics, in: G. M. Grossman & K. Rogoff (ed.), Handbook of International Economics, edition 1, volume 3, chapter 33, pages 1689-1729 Elsevier.
  2. Martin D. D. Evans, 2001. "FX Trading and Exchange Rate Dynamics," NBER Working Papers 8116, National Bureau of Economic Research, Inc.
  3. Jeffrey A. Frankel & Chudozie Okongwu, 1995. "Liberalized portfolio capital inflows in emerging markets: sterilization, expectations and the incompleteness of interest rate convergence," Pacific Basin Working Paper Series 95-04, Federal Reserve Bank of San Francisco.
  4. Jeffrey A. Frankel & Andrew K. Rose, 1994. "A Survey of Empirical Research on Nominal Exchange Rates," NBER Working Papers 4865, National Bureau of Economic Research, Inc.
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  7. Richard K. Lyons., 1993. "Tests of Microstructural Hypotheses in the Foreign Exchange Market," Research Program in Finance Working Papers RPF-230, University of California at Berkeley.
  8. Meese, Richard A. & Rogoff, Kenneth, 1983. "Empirical exchange rate models of the seventies : Do they fit out of sample?," Journal of International Economics, Elsevier, vol. 14(1-2), pages 3-24, February.
  9. Geert Bekaert & Campbell R. Harvey, 1994. "Time-Varying World Market Integration," NBER Working Papers 4843, National Bureau of Economic Research, Inc.
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  11. Martin D. D. Evans & Richard K. Lyons, 2002. "Order Flow and Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 110(1), pages 170-180, February.
  12. Jones, Charles M & Kaul, Gautam & Lipson, Marc L, 1994. "Transactions, Volume, and Volatility," Review of Financial Studies, Society for Financial Studies, vol. 7(4), pages 631-51.
  13. Harvey, Campbell R, 1991. " The World Price of Covariance Risk," Journal of Finance, American Finance Association, vol. 46(1), pages 111-57, March.
  14. Froot, Kenneth A & Frankel, Jeffrey A, 1989. "Forward Discount Bias: Is It an Exchange Risk Premium?," The Quarterly Journal of Economics, MIT Press, vol. 104(1), pages 139-61, February.
  15. Hasbrouck, Joel, 1991. " Measuring the Information Content of Stock Trades," Journal of Finance, American Finance Association, vol. 46(1), pages 179-207, March.
  16. Solnik, Bruno H., 1974. "An equilibrium model of the international capital market," Journal of Economic Theory, Elsevier, vol. 8(4), pages 500-524, August.
  17. Harald Hau, 2001. "Location Matters: An Examination of Trading Profits," Journal of Finance, American Finance Association, vol. 56(5), pages 1959-1983, October.
  18. Kyle, Albert S, 1985. "Continuous Auctions and Insider Trading," Econometrica, Econometric Society, vol. 53(6), pages 1315-35, November.
  19. Hasbrouck, Joel & Seppi, Duane J., 2001. "Common factors in prices, order flows, and liquidity," Journal of Financial Economics, Elsevier, vol. 59(3), pages 383-411, March.
  20. René M. Stulz, 1995. "The cost of capital in internationally integrated markets: The case of Nestlé," European Financial Management, European Financial Management Association, vol. 1(1), pages 11-22.
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