Abstract
This study proposes a more robust estimation of the implied volatility in the FX market, offers a possible explanation to the observed smile in implied volatilities based on a clientele effect, and tests the predictability of future volatilities in the FX market. We employ detailed data on OTC foreign exchange options trading that enable us to examine the behavior of the key players (financial companies, non-financial firms, households and foreign investors) and the investment strategies (straddles, strangles, reversals, synthetic futures, naked calls, and naked puts) used during relatively turbulent and tranquil periods.
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