Trading Volume, Illiquidity and Commonalities in FX Markets

50 Pages Posted: 22 Nov 2018 Last revised: 14 Oct 2019

See all articles by Angelo Ranaldo

Angelo Ranaldo

University of St. Gallen; University of St. Gallen - School of Finance

Paolo Santucci de Magistris

Aarhus University - CREATES

Date Written: October 14, 2019

Abstract

In a regime of floating FX rates and open economies, it is important to understand the way through which FX rates, volatility, and trading volume interrelate. To uncover this, we provide a simple theoretical framework to jointly explore these factors in a multi-currency environment. Through the use of a unique intraday data representative for the global FX market, the empirical analysis validates our theoretical predictions: (i) more disagreement increases FX trading volume, volatility, and illiquidity, (ii) stronger commonalities pertain to more efficient (arbitrage-free) currencies, and (iii) the Amihud (2002) measure, for which we provide a theoretical underpinning, is effective in measuring FX illiquidity. Not only do these findings support an integrated analysis of FX rate evolution and risk, but our work also offers a straightforward method to measure FX illiquidity and commonality. For investors, these insights should increase the efficiency of trading and risk analysis. For policy makers, our work highlights the developments of FX global volume, volatility, and illiquidity across time and currencies, which can be important for the implementation of monetary policy and financial stability.

Keywords: FX Trading Volume, Volatility, Illiquidity, Commonalities, Arbitrage

JEL Classification: C15, F31, G12, G15

Suggested Citation

Ranaldo, Angelo and Santucci de Magistris, Paolo, Trading Volume, Illiquidity and Commonalities in FX Markets (October 14, 2019). University of St.Gallen, School of Finance Research Paper No. 2018/23. Available at SSRN: https://ssrn.com/abstract=3289026 or http://dx.doi.org/10.2139/ssrn.3289026

Angelo Ranaldo (Contact Author)

University of St. Gallen ( email )

Swiss Institute of Banking and Finance s/bf-HSG
Unterer Graben 21
St. Gallen, 9000
Switzerland
+41712247010 (Phone)

HOME PAGE: http://www.sbf.unisg.ch/Lehrstuehle/Lehrstuhl_Ranaldo/Homepage_Ranaldo.aspx

University of St. Gallen - School of Finance ( email )

Unterer Graben 21
St.Gallen, CH-9000
Switzerland

Paolo Santucci de Magistris

Aarhus University - CREATES ( email )

Department of Economics and Business Economics
Fuglesangs Allè 4
Aarhus V, 8210
Denmark

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