ASYMMETRIC INFORMATION AND THE FOREIGN-EXCHANGE SPREADS OF GLOBAL CUSTODY BANKS

This paper examines how asymmetric information influences the margins charged by a global custody banks on foreign exchange transactions with customers. For most such trades, the custodian unilaterally sets the price; the client learns that price only after a delay measured in weeks. We hypothesize that custodial margins widen when customers face greater obstacles to identifying their trading costs. We also hypothesize that the custodian sets prices with the intent of protecting the ambiguity surrounding the margins themselves. Our data comprise the complete foreign exchange trading record of a mid-sized custody bank during calendar year 2006. Our regression analysis provides strong support for both hypotheses