An Examination Of The Relationship Between Returns And Trading Volume In The Currency Futures Market: A Linear And Non-Linear Approach

Abstract

In this paper, the relationship between returns and trading volume is examined for four currency futures contracts for the period January 1, 1986 to April 30, 1997. Both linear and nonlinear dependence is investigated. The study first employs linear causality tests, finding that futures returns and volume have no predictive power for one another. However, since the series show evidence of nonlinear dependence, the GARCH model is then employed. These results show a significant relationship between the returns and volume for only two of the four currencies (Japanese yen and Swiss franc) tested. When the series are divided into two subsamples, the results of the GARCH tests point 10 a significant relationship for all currency futures regarding the prediction of returns from volume traded, although mainly in the second test period. In summary, the results show that trading volume can provide important information in return prediction using a nonlinear model but that the series do not exhibit homogeneous behaviour over the entire sample period. Further, the results support the sequential information arrival hypothesis only in few cases.