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Price Discovery from Cross-Currency and FX Swaps: A Structural Analysis

Author

Listed:
  • Yasuaki Amatatsu

    (Bank of Japan)

  • Naohiko Baba

    (Bank of Japan)

Abstract

This paper investigates the relative role of price discovery between two long-term swap contracts that exchange between the U.S. dollar and the Japanese yen: cross-currency basis swap and FX (foreign exchange) swap. First, we show that these two swaps should be in a no-arbitrage relationship by allowing for differential risk premiums. Second, we empirically investigate the relative role of price discovery using the structural-form approach based on the state space models. Main finding are as follows. (i) The efficient prices extracted as a common factor of the two swaps show a very similar movement, regardless of model specifications. (ii) The currency swap market plays a much more dominant role in price discovery than the FX swap market. (iii) The FX swap prices tend to under-react to the efficient price changes, while the cross-currency swap prices almost exactly react to them.

Suggested Citation

  • Yasuaki Amatatsu & Naohiko Baba, 2007. "Price Discovery from Cross-Currency and FX Swaps: A Structural Analysis," Bank of Japan Working Paper Series 07-E-12, Bank of Japan.
    • Handle: RePEc:boj:bojwps:07-e-12
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    File URL: http://www.boj.or.jp/en/research/wps_rev/wps_2007/data/wp07e12.pdf
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    References listed on IDEAS

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    Cited by:

    1. Naohiko Baba & Frank Packer & Teppei Nagano, 2008. "The spillover of money market turbulence to FX swap and cross-currency swap markets," BIS Quarterly Review, Bank for International Settlements, March.

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    More about this item

    Keywords

    Currency Swap; FX Swap; Price Discovery; State Space Model; Efficient Price;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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