Macroeconomic Order Flows: Explaining Equity and Exchange Rate Returns
27 Pages Posted: 6 Dec 2004
There are 2 versions of this paper
Macroeconomic Order Flows: Explaining Equity and Exchange Rate Returns
Macroeconomic Order Flows: Explaining Equity and Exchange Rate Returns
Date Written: November 29, 2004
Abstract
Macroeconomic models of equity returns perform poorly. The proportion of daily index returns that these models explain is essentially zero. Instead of relying on macroeconomic determinants, our model includes a concept from microstructure - order flow. Order flow is the proximate determinant of price in all microstructure models. We explain aggregate equity returns as well as exchange rates in a model with heterogenous beliefs. Belief changes are shown to be observable through order flow. To test the model we construct daily aggregate order flow data from all equity trades in the U.S. and France from 1999 to 2003. Almost 60 percent of the daily returns in the S&P100 index is explained jointly by exchange rate returns and macroeconomic order flows.
Keywords: International macroeconomics, equities, exchange rates, microstructure
JEL Classification: F3, F31, G1, G15
Suggested Citation: Suggested Citation
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