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Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
Unit 2.2 Exchange Rate Quotations & Forex Markets
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Unit 2.2 Exchange Rate Quotations & Forex Markets

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This presentation deals with exchange rate quotations, common currency symbols, direct and indirect quotes, American terms, European terms, cross rates, Bid and Ask rates, Mid rate, Spread and its …

This presentation deals with exchange rate quotations, common currency symbols, direct and indirect quotes, American terms, European terms, cross rates, Bid and Ask rates, Mid rate, Spread and its determinants, Spot markets, Forward Markets, Premium and Discounts, various practices of writing quotations, calculating broken period forward rates, Speculation and arbitrage, Forex futures and Currency Options.

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  • 1.  Exchange rate quotations, Common currency symbols, Direct and indirect quotes, American terms, European terms, cross rates, Bid and Ask rates, Mid rate, Spread and itsdeterminants, Spot markets, Forward Markets, Premium andDiscounts, Various practices of writing quotations, Calculating broken period forward rates, Speculation and arbitrage, Forex futures and Currency Options Practice Numericals2Mrs. Charu Rastogi, Asst.Professor
  • 2. 3Mrs. Charu Rastogi, Asst.Professor
  • 3.  Currency pairs and the rate of exchangeEvery foreign exchange transaction is an exchangebetween a pair of currencies. Each currency is denoted by a unique three-characterInternational Standardization Organization (ISO) code(e.g. GBP represents sterling and USD the US dollar). Currency pairings are expressed as two ISO codesseparated by a division symbol (e.g. GBP/USD), the firstrepresenting the "base currency" and the other the"secondary currency“ or “quoted currency” The rate of exchange is simply the price of one currencyin terms of another. Base currency is the one you are buying or selling4Mrs. Charu Rastogi, Asst.Professor
  • 4.  For example GBP/USD = 1.5545 denotes that one unitof sterling (the base currency) can be exchanged for1.5545 US dollars (the secondary currency). Exchange rates are usually written to four decimalplaces, with the exception of Japanese yen which iswritten to two decimal places. The rate to two (out of four) decimal places is known asthe "big figure" while the third and fourth decimalplaces together measure the "points" or "pips". For instance, in GBP/USD = 1.5545 the "big figure" is1.55 while the 45 (i.e. the third and fourth decimalplaces) represents the points5Mrs. Charu Rastogi, Asst.Professor
  • 5. USD : US DollarHKD : Hong Kong DollarEUR : EuroJPY : Japanese YenGBP : British PoundCHF : Swiss FrancCAD : Canadian DollarSGD : Singapore DollarAUD : Australian DollarRMB : Chinese RenminbiINR : Indian Rupee6Mrs. Charu Rastogi, Asst.Professor
  • 6.  Direct Quotes◦ Gives the units of currency of domestic country per unit of aforeign currency◦ Price of foreign currency is quoted in terms of home currency.◦ In this system variable units of home currency equivalent to afixed unit of foreign currency are quoted.◦ Domestic currency is quoted currencyFor Eg – USD/INR = 45.30 Rs. / $ Indirect Quotes◦ Gives the units of currency of foreign country per unit of thedomestic currency◦ Price of home currency is quoted in terms of foreign currency◦ In this system variable units of foreign currency equivalent to afixed unit of home currency are quoted.◦ Foreign currency is the quoted currencyFor Eg – INR/USD = 0.0220 $ / Rs.7Mrs. Charu Rastogi, Asst.Professor
  • 7.  Exchange rate quoted in American Terms◦ USD becomes the quoted currency.◦ For Eg – INR/USD = 0.0220 $ / Rs. Exchange rate quoted in European Terms◦ USD becomes the base currency◦ For Eg – USD/INR = 45.30 Rs. / $◦ Or USD/CHF = 1.4550 CHF/$ Cross Rate◦ Quotation between two non dollar currencies◦ For Eg – GBP/INR = 90.4587 Rs./pound8Mrs. Charu Rastogi, Asst.Professor
  • 8.  USD is the most widely traded currency and is oftenused as the vehicle currency This helps in reduction of no. of quotes in themarket, as exchange rate between two currenciescan be determined through their quotes against theUSD. Any quote not against the USD is a „Cross Quote‟ Availability of USD quote for all currencies can helpin determining the exchange rate for any pair ofcurrencies by using the cross rate For eg. Cross quote for EUR-GBP = EUR/USD * USD/GBP9Mrs. Charu Rastogi, Asst.Professor
  • 9.  Bid rate◦ Price at which the forex dealer is willing to buy aunit of the base currency◦ As a customer this will be the price at which youwill sell the currency Ask rate/offer rate◦ Price at which the forex dealer is willing to sell aunit of the base currency◦ As a customer this will be the price at which thecurrency is offered to you or at which you buy. Eg – USD/CHF = 1.4550/1.4560 Video10Mrs. Charu Rastogi, Asst.Professor
  • 10.  When a bank quotes a currency, it simultaneously offersanother currency in lieu; if it buys dollars for rupees, it issimultaneously offering rupees for dollars. For example if a bank quotes bid rate at spot for dollars as(S) USD/INR bid= Rs. 35.50/$; (it is buying dollars at thisrate; recall that base currency is the one being traded); It also sells rupees for dollars simultaneously; this rate isask price of rupees in terms of dollars; in indirect quotes. (S) USD/INR bid= Rs. 35.50/$ = ask price of rupees inindirect quotes Therefore,S (USD/INR)ask= 1/ S (INR/USD)bidS (USD/INR)bid = 1/S (INR/USD)ask11Mrs. Charu Rastogi, Asst.Professor
  • 11.  Spread or dealer‟s margin or cost of transaction is thedifference between bid price and ask price If exchange rate quotation is given in “direct quote” form, bidrate < ask rate, and vice versa as the dealer will want to makea profit on currency dealing Eg – USD/CHF = 1.4550/1.4560 , (the spread is 10 pips). Itmay be shortened to 1.4550/60 In Sweden, USD/SEK = 8.9595/10 means 8.9595/83.9610 In Japan, USD/JPY = 106.98/05 means 106.98/107.05 Calculating spread and percentage spread◦ For Direct quotes, Spread = Ask Price-Bid Price◦ Percentage Spread = (Ask Price – Bid Price)/ Ask Price * 100◦ A bank in India quotes, USD/INR = 35.7621/35.8024◦ (For Indirect quotes reverse ask and bid price)12Mrs. Charu Rastogi, Asst.Professor
  • 12.  Liquidity/trading volume in the market; high volume, lowerspread; as cost of service per unit falls Nature of the organization making quotes (bank vs. moneychanger or finance company) Overall perception of the dealer about the conditions of theeconomy and the forex market Size of the transaction Number of players, time of the day etc Currency rate volatility. In the United States, spreads tend to be narrowest in the NewYork morning-Europe afternoon period, when the biggestmarkets are open and activity is heaviest. Bid-ask spread iswidest in the late New York afternoon, when European and mostlarge Asian markets are closed. In India the spread is set by Foreign Exchange DealersAssociation of India13Mrs. Charu Rastogi, Asst.Professor
  • 13.  A term used to describe the average rate agreedupon when conducting foreign exchange. The middle rate is calculated using the medianaverage of the bid and offer rates. The middle rate is the average of bid and askrates. For direct quotes,◦ S(bid) = M - c◦ S(ask) = M + c◦ Where, M= Mid rate and c = one side average spread orcost of transaction14Mrs. Charu Rastogi, Asst.Professor
  • 14.  Forex rates can be quoted as spot or, forwardcontracts. When buyers and sellers agree to trade atthe current exchange rate for immediate delivery, it isknown as spot transaction or cash transaction. Theword “immediate” has different meaning in this case.It can go upto maximum of two days. In forex market parlance, the trade date is the day onwhich both parties agree to buy and sell. The settlement date/value date is the day on whichfunds are actually transferred between the buyer andseller. Transactions can be◦ Cash (trade date is the same as the settlement date)◦ Spot◦ forward15Mrs. Charu Rastogi, Asst.Professor
  • 15.  A spot rate is the exchange rate which is valid for a transaction(purchase of currency A and sale of currency B) that must beconcluded within the next two working days. Thus the value date (i.e. the day of actual delivery of currencies) of atransaction performed on a Monday is Wednesday. For Thursday it isMonday (weekend days are not counted). With the advance in communication technology and electronic fundtransfer mechanism, settlement date is narrowing down to tradedate In India delivery under spot transaction can be:Type DescriptionReady or cash The transaction to be settled on the same dayTom The delivery of foreign exchange to be made on the day next(tomorrow) to the date of transaction.Spot Delivery of foreign exchange would take place on the 2nd workingday from the trade date.16Mrs. Charu Rastogi, Asst.Professor
  • 16.  In a forward contract both parties enter into acontract on a given day and lock in a fixed rateon specific future date. In such types of contract, the terms of thepurchase (buy or sell) are agreed up front (tradeexecution date) but actual exchange take placeon a date in the future (maturity date). Suppose on trade date, the Indian exporteragrees to sell EURO 1000 and receive INR 72450.On the maturity date, he delivers EURO 1000 andreceives INR 72450. Such types of forwardcontracts are known as outright forwardcontracts (OFTs).17Mrs. Charu Rastogi, Asst.Professor
  • 17.  Forward contracts can be many types depending on the rigidnessassociated with the maturity date. In a Fixed Maturity Contract, the maturity date is fixed. Thepayment and receipt happens on the maturity date. Partially Optional Contracts provide some flexibility. In such typeof contract, there are three dates, trade execution date, optionstart date and maturity date. On the trade execution date, twoparties agree to exchange and the rate of exchange is fixed. Inaddition, the parties can settle the transaction any time duringthe option start date and on before maturity date. In otherwords, in this contract, the maturity date spans across daysrather than a single day. In Fully Optional Contract, the contract may end anytime duringthe life of the contract i.e, anytime during trade execution dateand maturity date. Like the spot contracts, in forward contracts, the actualsettlement happens within two-business day from the maturitydate.18Mrs. Charu Rastogi, Asst.Professor
  • 18.  A foreign currency is said to be selling at a forward discountwhen forward price of the foreign currency is lower in termsof the domestic currency than its spot rate. Conversely, a foreign currency is said to be selling at aforward premium when its forward price in terms of domesticcurrency is higher than the spot price If, USD/INR (S) = Rs. 31.9812/$ and USD/INR (F) = Rs.32.1345/$, the foreign currency is at a premium anddomestic currency is at a discount. Premium/discount = [F(bid) – S(bid)]/S(bid) *100 Annualized Premium/discount = [F(bid) – S(bid)]/S(bid) *12/N*100 when quotes are in months (N = Months) Annualized Premium/discount = [F(bid) – S(bid)]/S(bid)*360/ND *100 when quotes are in days (ND=No of days)19Mrs. Charu Rastogi, Asst.Professor
  • 19.  In terms of discounts and premiums◦ Brokers may quote currencies in terms of discountsand premiums on them in the forward market.◦ Eg: if USD/INR (S) = Rs. 36.3500 and broker says:dollar is at 3% premium in the three monthsforward market. The outright forward rate can befound by using the formula◦ If the broker said that dollar is at 3% annualisedpremium then the premium would be 3% * (3/12)20Mrs. Charu Rastogi, Asst.Professor
  • 20.  In terms of basis points or swap rates or forward margins◦ Forward rate may be the same as spot rate, but generally the currency becomescostlier or cheaper.◦ The difference is called swap points or forward margin◦ A basis point is 1/100th of 1 percentage◦ Suppose a broker at new york quotes for French Francs: FF/USD (S) =$0.2144/FF, 30 days forward discount 100 basis points and 60 days forwarddiscount 20 basis points and for German Mark, DM/USD (S) = $ 0.4860/DM, 30days forward premium120 basis points and 60 days forward premium 160basis points◦ For direct rates, premium has to be added to the spot rate and discount has tobe subtracted from the spot rate◦ For indirect quotes, reverse is trueSpotexchange rate30 days swaprate/forwardmargins60 days swaprate/forwardmargins30 daysforward rate60 daysforward rate$0.2144/FF -100 -20 $0.2044/FF $0.2124/FF$0.4860/DM 120 160 $ 0.4980/DM $ 0.5020/DM21Mrs. Charu Rastogi, Asst.Professor
  • 21.  In terms of a-b or a/b where a and b are numbers◦ When forward bid/ask quotes are given in this format;◦ USD/INR (S) = Rs. 47.8525/9775, one month; 50/150 and 2 months; 200/300 or◦ USD/INR (S) = Rs. 47.8525, one month; 50-150 and 2 months; 200-300 or◦ If first figure is smaller than second figure then, base currency is at a premium andbasis points have to be added to spot rate◦ If first figure is greater than second figure then, base currency is at a discount andbasis points have to be deducted from spot rate◦ Therefore you can see the forward points and tell if base currency is at discount orpremiumSpot exchangerate1 month swaprate/forwardmargins2 month swaprate/forwardmargins1 monthforward rate2 month forwardrate47.8525/9775 50/150 200/300 47.8575/9925 47.8725/48.0075Base currency is at a premium in both, so we add.22Mrs. Charu Rastogi, Asst.Professor
  • 22.  Forex dealers normally quote forward rates at regularintervals like one month or three months. For example, dealers normally quote 1-week, 2-week, 1,2,3 6months forward rate. However, depending on customer‟s requirement, thesedealers quote forward rate on a specific future date that isnot an exact multiple of months. Such kinds of forwardsquotes are known as broken period quotes. Broken period rates are calculated by method of interpolation. Eg: Suppose a corporate customer wants to buy 100,000 USDon October 21st and the following info is given:USD/INR Maturity Date Bid Rate Ask RateSpot July 14th 47.0725 47.07451 Month Aug 14th 135 1302 Month Sept 14th 140 1333 Month Oct 14th 160 1454 Month Nov 14th 175 155 23Mrs. Charu Rastogi, Asst.Professor
  • 23. The interpolation method is used as follows: The forward rate points applicable are (160 to 175) for bidand (145-155) for ask. For 31 days (October 14th to November 14th), the bidspread is 15 points (175 to 160). For 7 days, the spread in bid point =15/31 *7 = 3.89 So the spread applicable for October 21st is 160 + 3.89 =163.89 Similarly, for 31 days (October 14th to November 14th ), theask spread is 10 points (155 to 145). For 7 days, the spread in bid point = 10/31 * 7 = 2.26 So the spread applicable for October 21st is 145 + 2.26 =147.26 For October 21st the bid/ask spread is 163.89/147.26;meaning that the base currency; USD is at a discount, sowe deduct. Bid rate on Oct 21st will be = 47.0725 - 0.016389 =47.0561 And the Ask rate will be = 47.0745-0.014726 = 47.059724Mrs. Charu Rastogi, Asst.Professor
  • 24.  Speculation exists whenever someone buys a foreigncurrency, not because they need to pay for an importor is investing in a foreign business, but because theyhope to sell the currency at a higher rate in the future Speculators buy and sell currencies to profit fromfluctuations in the value of those currencies Some level of speculation is good; as it increasesliquidity and provides easier access to foreigncurrencies However, excessive speculation can disruptinternational trade and economic development Speculation is done both in spot markets as well asforward markets25Mrs. Charu Rastogi, Asst.Professor
  • 25.  Arbitrage occurs when a currency trader takes advantage of different spreadsoffered by brokers for a particular currency pair by making trades. Different spreads for a currency pair imply disparities between the bid andask prices. Currency arbitrage involves buying and selling currency pairs from differentbrokers to take advantage of this disparity. Currency arbitrage involves the exploitation of the differences in quotesrather than movements in the exchange rates of the currencies in thecurrency pair. Forex traders typically practice two-currency arbitrage, in which thedifferences between the spreads of two currencies are exploited. Traders can also practice three-currency arbitrage, also known as triangulararbitrage, which is a more complex strategy. Due to the use of computers and high-speed trading systems, large tradersoften catch differences in currency pair quotes and close the gap quickly.26Mrs. Charu Rastogi, Asst.Professor
  • 26.  Refers to a exchange traded contract to exchange onecurrency for another at a specified date in the future at aprice (exchange rate) that is fixed on the purchase date A exchange traded forward contract is known as futurescontract. Forward contracts are tailor made depending on therequirement of the contract buyers or sellers. However being exchange traded, futures contracts arestandardized – contract size, maturity period etc. Being exchange traded, futures contract can be squared off(settled) easily which may not be possible in case of forwardcontract. In case of futures contract, the clearing house associated withexchange takes the counterparty risk – risk that the loss makingparty does not deliver during the maturity period. Traders also have to pay margins – initial and daily margin asexchanges require all traders to pay margin27Mrs. Charu Rastogi, Asst.Professor
  • 27.  In finance, a foreign-exchange option (commonlyshortened to just FX option or currency option) is aderivative financial instrument that gives the owner theright but not the obligation to exchange moneydenominated in one currency into another currency at apre-agreed exchange rate on a specified date An option that gives the right to buy is known as a „call‟while one that gives the right to sell is known as a „put‟ Depending on the contract term, an option may beexercisable on any date during a specified period or itmay be exercisable only on the final or expiration dateof period covered by the option contract28Mrs. Charu Rastogi, Asst.Professor
  • 28. FOREX QUOTATIONSQ.1) The following quote is given.USD 1 = CAD 1.1630/50.Identify the country in which this is a direct quote.Find the mid rate, spread and the spread percentage.Calculate the inverse quote.Q.2) Cable Rate is GBP USD 1.6000 / 1.6070In which country this is a direct quote?Find the midrate, spread and the % spread. Calculate inverse quote.Q.3) Following are the quotes given by a banker at Mumbai. Identify whether the quote is direct orindirect quote. Compute the direct quote for indirect quote and vice versa.1USD = Rs.45.85Rs. 100 = GBP 1.2312Rs. 100 = Euro 1.7850Rs. 100 = USD 2.20021 Yen = Rs. 0.4129Q.4) Consider the following quotes:Spot (Euro / Pound) = 1.6543 / 1.6557.Spot (Pound / NZ $) = 0.2786 / 0.2800.a) Calculate the percentage spread on the Euro / Pound rate.b) Calculate the percentage spread on the Pound / NZ $ rate.c) The maximum possible percentage spread on the cross rate between theeuro and the NZ $.Q.5) You have just graduated from the University of Florida and are leaving on a whirlwind tour tosee some friends. You wish to spend USD 1,000 each in Germany, New Zealand, and Great Britain(USD 3,000 in total). Your bank offers you the following bid-ask quotes: USD/EUR 1.304-1.305,USD/NZD 0.67-0.69, and USD/GBP 1.90-1.95.(a) If you accept these quotes, how many EUR, NZD, and GBP do you have at departure?(b) If you return with EUR 300, NZD 1,000, and GBP 75, and the exchange rates areunchanged, how many USD do you have?(c) Suppose that instead of selling your remaining EUR 300 once you return home, you wantto sell them in Great Britain. At the train station, you are offered GBP/EUR 0.66-0.68,while a bank three blocks from the station offers GBP/EUR 0.665-0.675. At what rate areyou willing to sell your EUR 300? How many GBP will you receive?Answers:(a) EUR 766.28; NZD 1,449.27; GBP 512.82.(b) 391.2 + 670 + 142.5 = USD 1203.7(c) You will sell at GBP/EUR 0.665; you will receive GBP 199.529Mrs. Charu Rastogi, Asst.Professor
  • 29. 30Mrs. Charu Rastogi, Asst.Professor

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