Asymmetric Information and the Foreign-Exchange Trades of Global Custody Banks

40 Pages Posted: 22 Mar 2011 Last revised: 15 Sep 2015

See all articles by Carol L. Osler

Carol L. Osler

Brandeis University - International Business School

Tanseli Savaser

Vassar College - Department of Economics

Thang Nguyen

Brandeis University

Date Written: February 15, 2011

Abstract

This paper examines how asymmetric information influences foreign-exchange trading between global custody banks and their client funds. The clients can negotiate prices with the custody bank dealers or simply instruct their representative at the custodian to carry out the trade. With non-negotiated trades, the custodian unilaterally sets the price and the client learns that price after a delay measured in days or weeks. We hypothesize that bid-ask spreads are higher on non-negotiated trades because the clients face relatively steep obstacles to monitoring trading costs and because the clients find such trades less administratively costly to themselves. We also suggest that custody banks are motivated to preserve any ambiguity surrounding trading costs. Since wider bid-ask spreads reduce the returns to the client’s ultimate investors, we also hypothesize that clients are more likely to negotiate prices for larger trades. Our data comprise the complete foreign exchange trading record of a mid-sized custody bank during calendar year 2006. Regression analysis provides support for all three hypotheses.

Keywords: Exchange rates, Microstructure, Asymmetric Information, Custody Banks

JEL Classification: G1, F3

Suggested Citation

Osler, Carol L. and Savaser, Tanseli and Nguyen, Thang, Asymmetric Information and the Foreign-Exchange Trades of Global Custody Banks (February 15, 2011). Available at SSRN: https://ssrn.com/abstract=1787706 or http://dx.doi.org/10.2139/ssrn.1787706

Carol L. Osler

Brandeis University - International Business School ( email )

Mailstop 32
Waltham, MA 02454-9110
United States
781-736-4826 (Phone)

Tanseli Savaser (Contact Author)

Vassar College - Department of Economics ( email )

124 Raymond Avenue
Poughkeepsie, NY 12604
United States

Thang Nguyen

Brandeis University ( email )

Waltham, MA 02454
United States

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