Markovian approximation in foreign exchange markets

In this paper, using the exit-time statistic, we study the structure of the price variations for the high-frequency data set of the bid–ask Deutschemark/US dollar exchange rate quotes registered by the inter-bank Reuters network over the period October 1, 1992 to September 30, 1993. Having rejected random-walk models for the returns, we propose a Markovian model which reproduce the available information of the financial series. Besides the usual correlation analysis we have verified the validity of this model by means of other tools all inspired by information theory. These techniques are not only severe tests of the approximation but also evidence of some aspects of the data series which have a clear financial relevance.