Demand Effects in the FX Forward Market: Micro Evidence from Banks’ Dollar Hedging
The Review of Financial Studies, forthcoming
62 Pages Posted: 16 Feb 2018 Last revised: 28 Jul 2020
Date Written: July 27, 2020
Using contract-level supervisory data, we show that dollar forward sales by non-US banks that are initiated at the end of a quarter and mature shortly after it concludes trade at higher prices and higher volumes. These effects are driven by banks with large net on-balance-sheet dollar assets that they can hedge around quarter-ends by selling dollars forward (increasing off-balance-sheet short positions), which suggests regulatory arbitrage to reduce capital charges for open foreign exchange (FX) exposure. Our results indicate that demand effects related to banks’ management of FX exposure are an important driver of deviations from covered interest rate parity.
Keywords: FX markets, demand shifts, hedging, price determination, global banks, international finance
JEL Classification: D40, E43, F30, F31, G15
Suggested Citation: Suggested Citation