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Extreme Returns without News: A Microstructural Explanation




What triggers extreme exchange-rate returns? Though news is the source of volatility in standard theoretical models, in reality volatility is often unrelated to news. This paper shows that extreme exchange-rate returns -- and, more generally, high kurtosis of returns -- are statistically inevitable even in the absence of news. We identify four microstructural sources of return kurtosis in price-contingent order flow: (1) high kurtosis in the distribution of price-contingent order sizes; (2) clustering of price-contingent order executions at certain times of day; (3) clustering of order executions at certain price levels; and (4) the tendency of positive-feedback trading to propagate trends. Using simulations calibrated to price-contingent orders placed at a major foreign exchange dealing bank we show that when each factor operates in isolation, the one that contributes most to kurtosis in returns is kurtosis in the order-size distribution. When the factors operate simultaneously, however, their interactions prove far more important. Extreme returns in the absence of news should be viewed as natural rather than anomalous.

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  • Carol Osler & Tanseli Savaser, 2008. "Extreme Returns without News: A Microstructural Explanation," Department of Economics Working Papers 2008-02, Department of Economics, Williams College.
  • Handle: RePEc:wil:wileco:2008-02

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    References listed on IDEAS

    1. Mark Carey & Mitch Post & Steven A. Sharpe, 1998. "Does Corporate Lending by Banks and Finance Companies Differ? Evidence on Specialization in Private Debt Contracting," Journal of Finance, American Finance Association, vol. 53(3), pages 845-878, June.
    2. Guinnane Timothy W., 1994. "A Failed Institutional Transplant: Raiffeisen's Credit Cooperatives in Ireland, 1894-1914," Explorations in Economic History, Elsevier, vol. 31(1), pages 38-61, January.
    3. Kose John & Anthony W. Lynch & Manju Puri, 2003. "Credit Ratings, Collateral, and Loan Characteristics: Implications for Yield," The Journal of Business, University of Chicago Press, vol. 76(3), pages 371-410, July.
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    More about this item


    kurtosis; exchange rates; order flow; high-frequency; microstructure; jump process; value-atrisk; risk management;

    JEL classification:

    • G1 - Financial Economics - - General Financial Markets
    • F3 - International Economics - - International Finance


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