Liquidity in the foreign exchange market: Measurement, commonality, and risk premiums

Loriano Mancini*, Angelo Ranaldo, Jan Wrampelmeyer

*Corresponding author for this work

Research output: Contribution to JournalArticleAcademicpeer-review


We provide the first systematic study of liquidity in the foreign exchange market. We find significant variation in liquidity across exchange rates, substantial illiquidity costs, and strong commonality in liquidity across currencies and with equity and bond markets. Analyzing the impact of liquidity risk on carry trades, we show that funding (investment) currencies offer insurance against (exposure to) liquidity risk. A liquidity risk factor has a strong impact on carry trade returns from 2007 to 2009, suggesting that liquidity risk is priced. We present evidence that liquidity spirals may trigger these findings.

Original languageEnglish
Pages (from-to)1805-1841
Number of pages37
JournalThe Journal of Finance
Issue number5
Publication statusPublished - Oct 2013

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