THE JOURNAL OF FINANCE * VOL. XLVIII, NO. 4 * SEPTEMBER 1993 Trading Patterns and Prices in the Interbank Foreign Exchange Market TIM BOLLERSLEV and IAN DOMOWITZ* ABSTRACT The behavior of quote arrivals and bid-ask spreads is examined for continuously recorded deutsche mark-dollarexchange rate data over time, across locations, and by market participants. A pattern in the intraday spread and intensity of market activity over time is uncovered and related to theories of trading patterns. Models for the conditional mean and variance of returns and bid-ask spreads indicate volatility clustering at high frequencies. The propositionthat trading intensity has an independent effect on returns volatility is rejected, but holds for spread volatil- ity. Conditional returns volatility is increasing in the size of the spread. THERE IS A GROWING body of theoretical studies on the pattern of trading activity in financial markets, with implications for the time series behavior of transactions prices and intensity of trading. The empirical literature address- ing similar concerns using intraday market data appropriate for such tasks is sparse, particularly in the area of the trading of currencies. The purpose of this paper is to examine both international patterns of intraday trading activity and the time series properties of returns and bid-ask spreads for the deutsche mark-dollar exchange rate in the interbank foreign exchange mar- ket. The goal is to provide information useful in the further development of market microstructure models of trading and to compare empirical findings against theoretical results already in existence. The foreign exchange market is in operation twenty-four hours a day, seven days a week, and is the closest analogue to the concept of a continuous time global marketplace. The deutsche mark-dollar rate is the most heavily traded, accounting for close to one-third of the overall volume.' For the continuously recorded bid and ask quotes analyzed in this paper, roughly 5,100 quotes are posted per trading day exclusive of weekends. Although there has been a great deal of recent interest in the globaliza- tion of trading in general, very little evidence is available on the twenty-four * Bollerslev is from the Kellogg Graduate School of Management, Northwestern University, and Domowitz is from the Department of Economics, Northwestern University. The authors thank Steve Albert and Jianxin Wang for excellent research assistance, and the National Science Foundation for financial support under grants SES90-22807 and SES89-21952. Rene Stulz (the editor) and an anonymous referee provided numerous useful suggestions on an earlier version of the paper. 1 See Lyons (1991) and Tygier (1988) for further discussion. 1421