Rise of the machines: algorithmic trading in the foreign exchange market
AbstractWe study the impact that algorithmic trading, computers directly interfacing at high frequency with trading platforms, has had on price discovery and volatility in the foreign exchange market. Our dataset represents a majority of global interdealer trading in three major currency pairs in 2006 and 2007. Importantly, it contains precise observations of the size and the direction of the computer-generated and human-generated trades each minute. The empirical analysis provides several important insights. First, we find evidence that algorithmic trades tend to be correlated, suggesting that the algorithmic strategies used in the market are not as diverse as those used by non-algorithmic traders. Second, we find that, despite the apparent correlation of algorithmic trades, there is no evident causal relationship between algorithmic trading and increased exchange rate volatility. If anything, the presence of more algorithmic trading is associated with lower volatility. Third, we show that even though some algorithmic traders appear to restrict their activity in the minute following macroeconomic data releases, algorithmic traders increase their provision of liquidity over the hour following each release. Fourth, we find that non-algorithmic order flow accounts for a larger share of the variance in exchange rate returns than does algorithmic order flow. Fifth, we find evidence that supports the recent literature that proposes to depart from the prevalent assumption that liquidity providers in limit order books are passive.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by Board of Governors of the Federal Reserve System (U.S.) in its series International Finance Discussion Papers with number 980.
Date of creation: 2009
Date of revision:
This paper has been announced in the following NEP Reports:
- NEP-ALL-2009-11-21 (All new papers)
- NEP-IFN-2009-11-21 (International Finance)
- NEP-MST-2009-11-21 (Market Microstructure)
You can help add them by filling out this form.
CitEc Project, subscribe to its RSS feed for this item.
- Osler, Carol & Savaser, Tanseli, 2011.
"Extreme returns: The case of currencies,"
Journal of Banking & Finance,
Elsevier, vol. 35(11), pages 2868-2880, November.
- Kervel, V.L. van, 2013. "Competition between stock exchanges and optimal trading," Open Access publications from Tilburg University urn:nbn:nl:ui:12-5663709, Tilburg University.
- Degryse, H.A. & Jong, F.C.J.M. de & Kervel, V.L. van, 2011. "The Impact of Dark and Visible Fragmentation on Market Quality (Replaces CentER Discussion Paper 2011-051)," Discussion Paper 2011-069, Tilburg University, Center for Economic Research.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Diane Rosenberger).
If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.
If references are entirely missing, you can add them using this form.
If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.
If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.
Please note that corrections may take a couple of weeks to filter through the various RePEc services.