Trading Volume and Exchange Rate Volatility: Evidence for the Sequential Arrival of Information Hypothesis
48 Pages Posted: 11 Feb 2011
Date Written: December 1, 2010
Abstract
The relationship between trading volume and volatility in foreign exchange markets continues to be of much interest, especially given the higher than expected volatility of returns. Allowing for non-linearities, this paper tests competing hypotheses on the possible relationship between volatility and trading volume using data for three major currency futures contracts denominated in US dollars, namely the British pound, the Canadian dollar and the Japanese yen. We find that trading volumes and return volatility are negatively correlated, implying a lack of support for the mixture of distributions hypothesis (MDH). Using linear and nonlinear Granger causality tests, we document significant lead-lag relations between trading volumes and return volatility consistent with the sequential arrival of information (SAI) hypothesis. These findings are robust and not sample dependent or due to heterogeneity of beliefs as proxied by open interest. Furthermore, our results are insensitive to the modeling approach used to recover volatility measures. Overall, our findings support the contention that short to medium term currency relationships may be dominated by trading dynamics and not by fundamentals.
Keywords: Currency Markets, Sequential Information Arrival, Return Volatility, Trading Volume
JEL Classification: F31, G12, G15
Suggested Citation: Suggested Citation
Do you have negative results from your research you’d like to share?
Recommended Papers
-
Micro Effects of Macro Announcements: Real-Time Price Discovery in Foreign Exchange
By Clara Vega, Torben G. Andersen, ...
-
Micro Effects of Macro Announcements: Real-Time Price Discovery in Foreign Exchange
By Torben G. Andersen, Clara Vega, ...
-
By Torben G. Andersen and Tim Bollerslev
-
Tests of Microstructural Hypotheses in the Foreign Exchange Market
-
Price Formation and Liquidity in the U.S. Treasury Market: The Response to Public Information