Understanding FX Liquidity

Forthcoming in The Review of Financial Studies

University of St.Gallen, School of Finance Research Paper No. 2013/15

49 Pages Posted: 24 Sep 2013 Last revised: 9 Jun 2015

See all articles by Nina Karnaukh

Nina Karnaukh

Ohio State University; Fisher College of Business - Department of Finance

Angelo Ranaldo

University of St. Gallen; Swiss Finance Institute

Paul Söderlind

University of St. Gallen

Date Written: February 23, 2015

Abstract

We provide a comprehensive study of the liquidity of spot foreign exchange (FX) rates over more than two decades and a large cross-section of currencies. First, we show that FX liquidity can be accurately measured with daily and readily-available data. Second, we demonstrate that FX liquidity declines with funding constraints and global risk, supporting theoretical models relating funding and market liquidity. In these distressed circumstances, liquidity tends to evaporate more for developed and riskier currencies. Finally, we show stronger comovements of FX liquidities in distressed markets, especially when funding is constrained, volatility is high, and FX speculators incur losses.

The appendices for this paper are available at the following URL: http://ssrn.com/abstract=2614853

Keywords: exchange rates, liquidity, transaction costs, commonality, low-frequency

JEL Classification: C15, F31, G12, G15

Suggested Citation

Karnaukh, Nina and Ranaldo, Angelo and Söderlind, Paul, Understanding FX Liquidity (February 23, 2015). Forthcoming in The Review of Financial Studies, University of St.Gallen, School of Finance Research Paper No. 2013/15, Available at SSRN: https://ssrn.com/abstract=2329738 or http://dx.doi.org/10.2139/ssrn.2329738

Nina Karnaukh (Contact Author)

Ohio State University; Fisher College of Business - Department of Finance ( email )

2100 Neil Avenue
Columbus, OH 43210-1144
United States

Angelo Ranaldo

University of St. Gallen ( email )

School of Finance
Unterer Graben 21
St. Gallen, 9000
Switzerland
+41712247010 (Phone)

HOME PAGE: http://fin-sr.unisg.ch

Swiss Finance Institute ( email )

c/o University of Geneva
40, Bd du Pont-d'Arve
CH-1211 Geneva 4
Switzerland
+41796637711 (Phone)

HOME PAGE: http://www.sfi.ch/de/about-us/news/hsg-faculty-members

Paul Söderlind

University of St. Gallen ( email )

Rosenbergstrasse 52
St. Gallen, 9000
Switzerland
+41 71 224 7064 (Phone)
+41 71 224 7088 (Fax)

HOME PAGE: http://https://sites.google.com/site/paulsoderlindecon/home

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