Carry Trades, Order Flow, and the Forward Bias Puzzle

Francis Breedon, Dagfinn Rime and Paolo Vitale

Journal of Money, Credit and Banking, 2016, vol. 48, issue 6, 1113-1134

Abstract: We investigate the relation between foreign exchange (FX) order flow and the forward bias. We outline a decomposition of the forward bias according to which a negative correlation between interest rate differentials and order flow creates a time‐varying risk premium consistent with that bias. Using 10 years of data on FX order flow, we find that more than half of the forward bias is accounted for by order flow—with the rest being explained by expectational errors. We also find that carry trading increases currency‐crash risk in that order flow generates negative skewness in FX returns.

Date: 2016
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Citations: View citations in EconPapers (21)

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https://doi.org/10.1111/jmcb.12328

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Working Paper: Carry Trades, Order Flow and the Forward Bias Puzzle (2015)
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Persistent link: https://EconPapers.repec.org/RePEc:wly:jmoncb:v:48:y:2016:i:6:p:1113-1134

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