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Market Microstructure and the Profitability of Currency Trading

Author

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  • Carol Osler

    () (International Business School, Brandeis University)

Abstract

Currency trading is a vast and highly profitable business. This paper examines the profitability of two popular currency trading strategies in light of currency-market microstructure research. The carry-trade strategy involves borrowing a low-interest currency and investing the proceeds in a high-interest currency. Technical trading strategies are determined exclusively on the basis of past asset prices and trading volumes. Under the efficient markets hypothesis, neither of these approaches to speculative trading should produce excess returns. The review shows that the profitability of carry-trade investing and technical trading strategies can represent rational long-run equilibria given the structure of currency markets and the incentives and constraints faced by traders.

Suggested Citation

  • Carol Osler, 2012. "Market Microstructure and the Profitability of Currency Trading," Working Papers 48, Brandeis University, Department of Economics and International Businesss School.
  • Handle: RePEc:brd:wpaper:48
    as

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    File URL: http://www.brandeis.edu/economics/RePEc/brd/doc/Brandeis_WP48.pdf
    File Function: First version, 2012
    Download Restriction: no

    References listed on IDEAS

    as
    1. Michael J. Sager & Mark P. Taylor, 2006. "Under the microscope: the structure of the foreign exchange market," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 11(1), pages 81-95.
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    4. Clarida, Richard & Davis, Josh & Pedersen, Niels, 2009. "Currency carry trade regimes: Beyond the Fama regression," Journal of International Money and Finance, Elsevier, vol. 28(8), pages 1375-1389, December.
    5. Della Corte, Pasquale & Sarno, Lucio & Tsiakas, Ilias, 2011. "Spot and forward volatility in foreign exchange," Journal of Financial Economics, Elsevier, vol. 100(3), pages 496-513, June.
    6. Harald Hau & William Killeen & Michael Moore, 2002. "How has the euro changed the foreign exchange market?," Economic Policy, CEPR;CES;MSH, vol. 17(34), pages 149-192, April.
    7. Dueker, Michael & Neely, Christopher J., 2007. "Can Markov switching models predict excess foreign exchange returns?," Journal of Banking & Finance, Elsevier, vol. 31(2), pages 279-296, February.
    8. Francis Breedon & Dagfinn Rime & Paolo Vitale, 2016. "Carry Trades, Order Flow, and the Forward Bias Puzzle," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 48(6), pages 1113-1134, September.
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    1. repec:eee:ecofin:v:42:y:2017:i:c:p:172-192 is not listed on IDEAS

    More about this item

    Keywords

    Carry trade; Technical analysis; Skewness; Liquidity;

    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange

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