New Economics Papers
on Market Microstructure
Issue of 2009‒03‒22
three papers chosen by
Thanos Verousis

  1. Exchange Rate Forecasting, Order Flow and Macroeconomic Information By Rime, Dagfinn; Sarno, Lucio; Sojli, Elvira
  2. Introducing a spread into the Kyle model By Salomonsson, Marcus
  3. Information and liquidity: a discussion By Guillaume Rocheteau

  1. By: Rime, Dagfinn; Sarno, Lucio; Sojli, Elvira
    Abstract: This paper adds to the research efforts that aim to bridge the divide between macro and micro approaches to exchange rate economics by examining the linkages between exchange rate movements, order flow and expectations of macroeconomic variables. The basic hypothesis tested is that if order flow reflects heterogeneous expectations about macroeconomic fundamentals, and currency markets learn about the state of the economy gradually, then order flow can have both explanatory and forecasting power for exchange rates. Using one year of high frequency data collected via a live feed from Reuters for three major exchange rates, we find that: i) order flow is intimately related to a broad set of current and expected macroeconomic fundamentals; ii) more importantly, order flow is a powerful predictor of daily movements in exchange rates in an out-of-sample exercise, on the basis of economic value criteria such as Sharpe ratios and performance fees implied by utility calculations.
    Keywords: exchange rates; forecasting; macroeconomic news; microstructure; order flow
    JEL: F31 F41 G10
    Date: 2009–03
  2. By: Salomonsson, Marcus (Dept. of Economics, Stockholm School of Economics)
    Abstract: The Kyle (1985) model is extended to take into account market maker competition and the spread. It is shown that with a spread the Kyle model has a Nash equilibrium also with two market makers, not only with three or more, as shown in earlier research. The spread is endogenized, and two testable predictions of the model are generated. The first is that the spread is increasing in the standard deviation of the fundamentals. The second is that it is independent of the standard deviation of noise trades.
    Keywords: market microstructure; spread; market maker;
    JEL: D53 D82 G12 G14
    Date: 2009–03–11
  3. By: Guillaume Rocheteau
    Abstract: I extend and discuss the model of asset liquidity by Lester, Postlewaite, and Wright (2007, 2008). I consider a model with decentralized trades in which claims on a real and divisible asset serve as means of payment. A recognizability problem is introduced by assuming that the claims on the asset can be counterfeited at a positive cost. This formalization nests the models by Lagos and Rocheteau (2008) and Geromichalos, Licari, and Suarez-Lledo (2007) in which there is no recognizability problem, and Lester, Postlewaite, and Wright (2007), in which counterfeits can be produced at no cost. Even though no counterfeiting occurs in equilibrium, the recognizability problem a¤ects the composition of trades: buyers consume less and spend a lower fraction of their asset holdings in matches where sellers are uninformed. Both the asset price and its liquidity (as measured by its transaction velocity) depend on the recognizability of the asset. The asset is more liquid and its return is lower if either the sellers’ ability to recognize counterfeits or the cost of producing counterfeits increases.
    Keywords: Money ; Asset pricing ; Counterfeits and counterfeiting ; Liquidity (Economics)
    Date: 2009

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