Price Discovery in Brazilian FX Markets

Abstract

We study price discovery in the Brazilian Foreign Exchange (FX) markets and indicate which market (spot or futures) adjusts more quickly to the arrival of new information. We find that the futures market dominates price discovery since it accounts for 66.2% of the variation in the fundamental price shock and 97.4% of the fundamental price composition. This corroborates results from previous studies that, in a unique world example, the exchange rate is formed in the futures market. In a dynamic perspective, the futures market is also more efficient since equilibrium is more quickly restored when markets are subjected to a shock in the fundamental price. By computing price discovery according to calendar semesters, we find evidence of the correlation between price discovery metrics and market factors, such as spot market supply-demand disequilibrium, central bank interventions, and institutional investors' pressure.