How do UK-based foreign exchange dealers think their market operates? (original) (raw)

A survey of market practitioners’ views on exchange rate dynamics

Journal of International Economics, 2000

We report some findings from a survey of practitioners in the interbank foreign exchange markets in Hong Kong, Tokyo, and Singapore. The respondents contend that liquidity and market uncertainty are two important reasons for deviating from the conventional interbank bid-ask spread. A strong customer base is perceived as a source of competitive advantage for large participants. Most respondents agree that non-fundamental factors have pervasive impacts on short-run exchange rates. Speculation is believed to increase volatility but also improve market liquidity and efficiency. Despite their claim that intervention exacerbates volatility, more than one-half of the respondents suggest official intervention helps restore equilibrium.

The market microstructure approach to foreign exchange: Looking back and looking forward

Journal of International Money and Finance, 2013

Research on foreign exchange market microstructure stresses the importance of order flow, heterogeneity among agents, and private information as crucial determinants of short-run exchange rate dynamics. Microstructure researchers have produced empirically-driven models that fit the data surprisingly well. But FX markets are evolving rapidly in response to new electronic trading technologies. Transparency has risen, trading costs have tumbled, and transaction speed has accelerated as new players have entered the market and existing players have modified their behavior. These changes will have profound effects on exchange rate dynamics. Looking forward, we highlight fundamental yet unanswered questions on the nature of private information, the impact on market liquidity, and the changing process of price discovery. We also outline potential microstructure explanations for long-standing exchange rate puzzles. JEL Classification: F31, G12, G15, C42, C82. 3 King et al. (2012) provides a comprehensive history of the evolution of FX market structure, with considerable detail on the geography and composition of currency trading, the players in FX markets, and the evolution of electronic trading. The chapter is descriptive and does not consider the microstructure literature or other academic studies of FX.

The Microstructure of Currency Markets

2012

This paper describes the structure and microeconomics of the foreign exchange market. It begins by outlining the major participants and the instruments they trade, highlighting the vast institutional changes that accompanied the emergence of electronic trading since the 1990s. It then discusses how and why order flow drives exchange rates; the economics of liquidity provision; the price discovery process; and volatility. This paper was prepared as a chapter of Survey of International Finance, Kent Baker &

Explaining the bid-ask spread in the foreign exchange market: A test of alternate models

Australian Journal of Management, 2013

This paper attempts to uncover the determinants of the dealer bid-ask spread in the foreign exchange market. Prior research has examined the Huang-Masulis model wherein the spread is modelled as a function of dealer competition and volatility. We first extend this model to a much larger set of quote data covering several currencies over five years. A more recent model of the bid-ask spread has been proposed (BSW) wherein the spread is modelled as a function of order-processing costs, inventory-holding costs, adverse selection and competition. This model has not previously been tested in the foreign exchange market and this study conducts such a test. We find general support for both models using individual currency samples and a pooled sample. Of note, we find strong evidence for the relevance of the inventory-holding premium on the size of the dealer bid-ask spread. To compare the two models we undertake out-of-sample forecasts of the spread and find evidence that favours the BSW model in the aggregated sample, while the evidence is mixed in relation to individual currencies.

Foreign Exchange Market Structure, Players and Evolution

It would be hard to overstate the importance of exchange rates for the world economy. They affect output and employment through real exchange rates. They affect inflation through the cost of imports and commodity prices. They affect international capital flows through the risks and returns of different assets. Exchange rates are justifiably a major focus for policymakers, the public, and, of course, the media.

Traders, Market Microstructure and Exchange Rate Dynamics

SSRN Electronic Journal, 1999

We thank Helen Popper and Russ Root for useful comments, Eiji Fujii and Madhushree Dasgupta for research assistance, and the UCSC Document Publishing and Editing Center for logistical assistance in conducting the survey. The financial support of faculty research funds of the University of California is gratefully acknowledged. The views expressed herein are those of the authors and not necessarily those of the National Bureau of Economic Research.

Currency traders and exchange rate dynamics: a survey of the US market

Journal of International Money and Finance, 2001

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Bid-Ask Spreads in Foreign Exchange Markets

1996

The term market microstructure was coined in 1976 by Mark Garman to define "moment-to-moment trading activities in asset markets." With the stated goal of providing insight and testable implications regarding the transaction-totransaction nature of realistic exchange processes, Garman examines dealership and auction models of marketmakers where the stream of market orders from a collection of market agents is depicted as a stochastic Poisson process. The resulting insights concern bid-ask spreads (based on standard microeconomic analysis), inventories of marketmakers, and the effects of some market power on the part of marketmakers. A more recent microstructure literature is based on information asymmetries among economic agents. In a recent literature review, Admati (1991) defines the area of market microstructure as "the literature on asset markets with asymmetric information and especially on trading mechanisms" (p. 347); Garman is noted as an example of "earlier market microstructure literature" in which "information issues were not typically modelled" (p. 355, n. 11). Two reasons are given for the popularity of asymmetric information models: policy implications of different trading processes, as exemplified by the 1987 crash, and empirical results such as various patterns in trading volume, variances, and returns over the trading day. The belief is that better insights into both issues will be achieved by examining information asymmetries. Moreover, observed empiri

Private or Public Information in Foreign Exchange Markets? An Empirical Analysis

In macroeconomic models exchange rates are determined by public information. Trading activities are completely irrelevant. In general, these models have low explanatory power for short horizons, which might be due to the possible existence of private information. Dealers in the foreign exchange market consider the order flow from customers to be the most important source of private information. I test a microstructural trading model incorporating private information, including both order flow and macroeconomic variables. The results show that order flow is an important variable for explaining weekly changes in exchange rates, thereby indicating an important role for private information. The strongest effect comes from customer order flow, which highlights the fundamental role of customer demand.