Asymmetric Information Risk in FX Markets

This work studies the information content of trades in the world's largest over-the-counter (OTC) market, the foreign exchange (FX) market. It analyses a novel, comprehensive order flow dataset, distinguishing amongst different groups of market participants and covering a large cross-section of currency pairs. We find compelling evidence of heterogeneous superior information across agents, time and currency pairs, consistent with the asymmetric information theory and OTC market fragmentation. A trading strategy based on the permanent price impact, capturing asymmetric information risk, generates high returns even after accounting for risk, transaction costs and other common risk factors documented in the FX literature.