PRICE DISCOVERY IN THE FOREIGN-EXCHANGE MARKET - AN EMPIRICAL-ANALYSIS OF THE YEN DMARK RATE/

Using Reuters exchange rate data we investigate the dynamic relations between the direct quotes of the yen/dmark rate and the rate implied b y yen/dollar and dmark/dollar rates. Since these high frequency data a re observed at irregular intervals, technical problems arise in calcul ating auto-correlations and cross-correlations. We propose a covarianc e estimator for irregularly spaced data. The empirical results show la gged adjustment of the direct yen/dmark cross-rate to changes in the d ollar implied rate. However, since the dollar implied rate is extremel y noisy, substantial price discovery takes place through the direct ye n/dmark market, especially during the most busy parts of the day. (C) 1998 Elsevier Science Ltd. All rights reserved.