FX Mrkts
FX Mrkts
FX Mrkts
SESSION OUTLINE
Foreign Exchange Market & Participants
Structure of FOREX Market
Exchange Rates
Spot Quotes
• Direct Quotes & Indirect Quotes
• European Terms & American Terms
• Bid Ask Rate, Spread, Spread %
• Cross Rate, Cross Rate Calculation
FOREIGN EXCHANGE
Functions of Money:
• Unit of account
• Store value
• Medium of exchange
When it comes to Foreign Exchange, it creates additional
issues to be addressed.
Foreign Exchange: It is the money of a foreign country
represented in bank balances, bank notes, cheques, drafts.
• Home currency: Currency of country the person is residing
• Foreign currency: All other currencies
Foreign Exchange transaction: Is an agreement between
a buyer and seller that a fixed amount of one currency will
be delivered for some other currency at a specified rate.
FOREIGN EXCHANGE MARKET
Knowledge & operation of and mechanics of foreign exchange
markets is important for fundamental understanding of
international financial management.
Foreign Exchange market: Physical and institutional structure
through which the money of one country is exchanged for that of
another country.
• It is a mechanism by which participants transfer purchasing power
between countries, by exchanging money, obtain or provide credit for
international transactions and minimize exposure to the risks of
exchange rate fluctuations.
Simply put:
• Foreign exchange market is the market in which participants are able to
buy, sell, exchange and speculate on currencies.
• Foreign exchange market is a global decentralized or over-the-
counter market for the trading of currencies.
IMPORTANCE OF FOREX MARKET
International trade & capital transactions normally involve parties with
difference national currencies. But the transactions can be undertaken
in only currency.
Hence one party has to deal in a foreign currency and manage the
effects of such dealing.
International goods movement takes time (i.e. in transit) and needs to
be financed. Forex market provides the sources of financing.
Provide hedging facilities for transferring foreign exchange risks to
some one else who is willing to carry the risks, at a price.
International travellers need to exchange their home currency to
obtain foreign (local) currency so that they can spend while in that
foreign country.
STRUCTURE OF FOREX MARKET
PARTICIPANTS OF FOREX MARKET
Central Banks
Major commercial banks
Investment banks
Corporations for international business transactions
Hedge funds
Pension and mutual funds
Insurance companies
Forex brokers
Speculators
FOREX MARKET
The structure of the Forex market is rather unique because
it is a massive Over-the-Counter (OTC) market and is
independent of any centralized exchange as in the case of
stock markets.
This market determines the foreign exchange rate.
It includes all aspects of buying, selling and
exchanging currencies at current or determined (forward)
prices.
The foreign exchange market – also called forex, FOREX, or
currency market – trades currencies.
It is considered to be the largest financial market in the
world.
Aside from providing a floor for the buying, selling,
BENEFITS OF USING THE FOREX MARKET
Fewer rules, which means investors aren't held to strict
standards or regulations as those in other markets.
No clearing houses and no central bodies that oversee the
forex market.
Market is open 24 hours a day, you can trade at any time of
day, which means there's no cut off time to be able to
participate in the market.
You can get in and out whenever you want and you can buy
as much currency as you can afford. However, many
countries do have restrictions on foreign exchange
transactions by its residents as well as non-residents.
THE BIGGEST IN THE WORLD OF
FINANCE
The foreign exchange market is unique for several reasons,
mainly because of its size.
Trading volume in the forex market is generally very large
because of the number of people who participate, the ease
of trading as well as accessibility to the market.
As an example, trading in foreign exchange markets
averaged $ 6.60 trillion per day in 2019. This was up 66%
from almost a decade ago in 2010.
The Bank for International Settlements, which is owned by
60 central banks, conducts a triennial survey of currency
trading, the latest one being in 2019.
• Look up www.bis.org
AVG. DAILY FOREX TRADE VOLUMES (US
$M)
7,000 7,000
6,595
298
108
6,000 6,000
5,357
337
5,000 54 5,066 5,000
254
82
3,203
4,000 4,000
2073,973 2,240
43
2,378
2123,324
3,000 31 3,000
1,759
679 999
1,714
2,000 1,934 700 2,000
119
21 475
954
362
1,000 2,047 1,987 1,000
209 1,489 1,652
1,005
631
... ...
2004 2007 2010 2013 2016 2019
100.0
90.0
80.0
70.0
60.0
50.0
40.0
30.0
20.0
10.0
...
USD EUR JPY GBP AUD CAD CHF CNY³ HKD³ NZD³
2010 2019
FOREX MARKET CHARACTERISTICS
The forex market has unique characteristics and properties
that make it an attractive market for investors who want to
optimize their profits.
Open 24 Hours a Day, 5 Days a Week.
In the forex market, as one major forex market closes
(timing), another market in a different part of the world
opens for business.
Unlike stocks, the forex market operates 24 hours daily
except on weekends.
TWO-TIERED WITH MULTIPLE PARTICIPANTS
RETAIL & WHOLESALE
Although the market is two-tiered, retail and wholesale
markets connect through market makers who serve retail
clients and participate in wholesale market.
WHY DO MARKET PARTICIPANTS TRADE?
OPERATION OF FOREX MARKET
Time and Day of operation
Currency of operation – mostly USD
Trading platforms
• Personal – individual to individual. In India, not permitted to deal in this
manner.
• Official trading floors by open bidding – no longer being used
• Electronic platforms – most common
Settlement of transactions:
• SWIFT: Society for Worldwide Interbank Financial Telecommunications. Used
by over 25,000 financial institutions in over 210 countries. SWIFT is the
platform for communication between banks.
• CHIPS: Clearing House Interbank Payment Settlement. Owned by 12 private
commercial banks in US to enable daily settlement of US $ transactions. Is
easy since over 60% of world wide forex transactions are in US$ and
maintained/ settled in NY.
SWIFT – CHIPS EXAMPLE
Indirect Quote:
• An Indirect quote gives the price of one unit of home currency
expressed in so many units of foreign currency units. (That is 1
HC = X units of FC)
USD 0.01398/ INR => 1 INR = USD 0.01398 (In India)
Observe that the quote is 1 INR (HCC) costs USD 0.01398 (FC)
QUOTES
It is important to understand the quote logic rather than
which currency is appearing first. But quote convention
must be followed depending on whom the bank is
quoting to.
Quote conventions used when USD is involved, are of 2
types: American and European
American Quote: FC (Base)/ USD (Price)
• No. of USD per 1 unit of FC ($ price of 1 FC unit)
• EUR/ USD 1.11713 or EUR 1 = USD 1.11713
European Quote: USD (Base)/ FC (Price)
• No. of units of FC per 1 USD (FC price for 1 $)
• USD/ EUR 0.89438 or USD 1 = EUR 0.89438
QUOTES – INVERSE QUOTES – IMPLIED QUOTES
29
BID – ASK RATES INTERPRETATION
EXAMPLE
Spot - Bid-Ask Rates
CAD / USD AUD/USD
Bid Ask Bid Ask
1.1641 1.1646 1.2948 1.2956
Dresdn Barclay
er s
FC/ HC HC/ FC
Spot rate ¥ 118.27/ $ $/ ¥ 0.0084552
3-month ¥ 116.84/ $ $/ ¥ 0.0085587
forward
Forward premium in FC terms
(Spot-Forward)/ (118.27- 4.90%
Forward * 360/90 116.84)/116.84 *
360/90
In 3 months, less ¥ required for $, hence ¥ is selling at a
3-month forward premium of 4.90% against the $
Forward premium HC terms
(Forward-Spot)/ (0.0084552- -4.90%
Spot * 360/90 0.0085587) /
0.0084552*360/90
In 3 months, more $ required for ¥, hence $ is selling at a 3-
month forward discount of 4.90% against the ¥