The document provides a history of foreign exchange markets and currencies. It discusses how barter systems evolved into the use of coins and paper money. It then summarizes the origins and development of modern foreign exchange markets in the 17th century in London coffee houses. It describes how the markets grew with the involvement of banks, new participants like funds, and technological developments like electronic trading platforms. The key factors influencing exchange rates and the largest currency pairs are also outlined.

1. Foreign Exchange Markets
Foreign Exchange Markets
By Akshay Samant
By Akshay Samant

3. History Of Money
History Of Money
• Barter & Ancient Trade
Barter & Ancient Trade
– Historians trace the origins of barter to the early
Historians trace the origins of barter to the early
stone age period between 8000 BC and 6000 BC in
stone age period between 8000 BC and 6000 BC in
middle east, Greece, Turkey, Asia & Africa.
middle east, Greece, Turkey, Asia & Africa.
– Barter – To trade by exchanging goods and services
Barter – To trade by exchanging goods and services
for other goods & services not money.
for other goods & services not money.
– Successful Barter – Mr. A must want what Mr. B has
Successful Barter – Mr. A must want what Mr. B has
& Mr. B must simultaneously want what Mr. A has.
& Mr. B must simultaneously want what Mr. A has.

4. – Coins first struck in the region of Lydia now modern
Coins first struck in the region of Lydia now modern
Turkey
Turkey
– The paper money first emerged in China under Tang
The paper money first emerged in China under Tang
Dynasty (618 AD - 907 AD)
Dynasty (618 AD - 907 AD)
– The functions of currency
The functions of currency
• Medium of exchange
Medium of exchange
• Value of exchange
Value of exchange
• Store of value
Store of value
– Characteristics of money - convertibility, portability,
Characteristics of money - convertibility, portability,
divisibility, durability, stability of value
divisibility, durability, stability of value

5. The History of Foreign Exchange
The History of Foreign Exchange
Markets
Markets
• The origins of modern – day financial centers
The origins of modern – day financial centers
were the late 17
were the late 17th
th
century
century
• Coffee houses of London close to the Royal
Coffee houses of London close to the Royal
Exchange, mercantile hub set up by English
Exchange, mercantile hub set up by English
merchant and financier Sir Thomas Gresham in
merchant and financier Sir Thomas Gresham in
the 16
the 16th
th
century.
century.
• Information list, Lloyd’s list – Exchange rate
Information list, Lloyd’s list – Exchange rate
• East India Company – Longest surviving
East India Company – Longest surviving
company of all time, global trade.
company of all time, global trade.

6. • The advent of Fx markets in 1970s led to the
The advent of Fx markets in 1970s led to the
development of inter bank markets, Fx trading.
development of inter bank markets, Fx trading.
• Sole domain of commercial banks & investment
Sole domain of commercial banks & investment
banks.
banks.
• New players – Insurance companies, pension
New players – Insurance companies, pension
funds, mutual funds & hedge funds.
funds, mutual funds & hedge funds.

7. • Before the invention of fax machines and
Before the invention of fax machines and
internet Fx business was conducted via telex and
internet Fx business was conducted via telex and
dedicated telephone lines
dedicated telephone lines
• These channels were replaced by electronic
These channels were replaced by electronic
communications networks ECN’s set up by
communications networks ECN’s set up by
information service providers such as Reuters &
information service providers such as Reuters &
EBS (electronic broking service)
EBS (electronic broking service)
• The advent of ECN’s fueled explosive growth in
The advent of ECN’s fueled explosive growth in
foreign exchange trading.
foreign exchange trading.

8. • The growth was further driven by the
The growth was further driven by the
emergence of the internet in the 1990’s
emergence of the internet in the 1990’s
• It lowered the cost of handling and processing
It lowered the cost of handling and processing
information, and brought foreign exchange
information, and brought foreign exchange
trading services online.
trading services online.
• Services such as prime brokerage, white –
Services such as prime brokerage, white –
labeling & algorithmic trading are growing in
labeling & algorithmic trading are growing in
these markets. Amid intense competition
these markets. Amid intense competition
between the different liquidity providers to
between the different liquidity providers to
capture market share in foreign exchange
capture market share in foreign exchange
trading
trading

9. • Prime brokerage – The term ‘prime broker’
Prime brokerage – The term ‘prime broker’
describes an investment banks package of
describes an investment banks package of
services for clients, mostly hedge funds clients.
services for clients, mostly hedge funds clients.
• White labelling – this allows smaller banks &
White labelling – this allows smaller banks &
financial institution to outsource their currency
financial institution to outsource their currency
pricing to providers with large liquidity base,
pricing to providers with large liquidity base,
such as HSBC, Citigroup, Deutsch bank, while
such as HSBC, Citigroup, Deutsch bank, while
promoting these services under their own name.
promoting these services under their own name.

10. • Algorithmic trading – Also known as ‘automatic’,
Algorithmic trading – Also known as ‘automatic’,
blackbox, or robo trading where the investor
blackbox, or robo trading where the investor
places an order to buy or sell and the computer
places an order to buy or sell and the computer
automatically generates the timing of orders and
automatically generates the timing of orders and
the size of orders based on goals specified by
the size of orders based on goals specified by
algorithmic parameters and constraints.
algorithmic parameters and constraints.
• The online foreign Exchange trading platform –
The online foreign Exchange trading platform –
Fx connect, Fxall & Currenex. These are
Fx connect, Fxall & Currenex. These are
multibank foreign exchange trading network that
multibank foreign exchange trading network that
provides secure, real time trade execution with
provides secure, real time trade execution with
multiple counterparties 24 hours a day
multiple counterparties 24 hours a day

11. • The most important component of daily trading
The most important component of daily trading
volume is speculation activity
volume is speculation activity
• This usually relates to global capital seeking the
This usually relates to global capital seeking the
most profitable return in the shortest period of
most profitable return in the shortest period of
time.
time.
• Currency market players worldwide followed two
Currency market players worldwide followed two
key strategies
key strategies
– One is based on interest rate differentials by investing
One is based on interest rate differentials by investing
in high yielding currencies. Popular among high
in high yielding currencies. Popular among high
leveraged players
leveraged players “carry trade”
“carry trade”

12. – Momentum trading – where investors took large
Momentum trading – where investors took large
positions in currencies aimed at exploiting long
positions in currencies aimed at exploiting long
swings or runs in exchange rates
swings or runs in exchange rates
• Characteristics of Fx market
Characteristics of Fx market
– 24 hour market – time zone enter / exit
24 hour market – time zone enter / exit
– Liquidity – better depth & breadth
Liquidity – better depth & breadth
– Easy entry – (online trading)
Easy entry – (online trading)
– Simple trading decisions – (a few of the worlds
Simple trading decisions – (a few of the worlds
currencies
currencies

13. – High leverage possible – (leverage their
High leverage possible – (leverage their
position as much as 100 times)
position as much as 100 times)
– Low transaction cost – (commission free & no
Low transaction cost – (commission free & no
exchange or Clearing free)
exchange or Clearing free)
– Real time quotes, instant execution (execute
Real time quotes, instant execution (execute
their trades directly off real time bid-ask
their trades directly off real time bid-ask
quotes, trade executed with much more
quotes, trade executed with much more
certainty)
certainty)

14. • Leading currencies
Leading currencies
– The four most imp currencies in foreign
The four most imp currencies in foreign
exchange markets in term of trading volume
exchange markets in term of trading volume
are:
are:
• US Dollar – USD
US Dollar – USD
• Euro – EUR
Euro – EUR
• Japanese yen – JPY
Japanese yen – JPY
• UK pound sterling – GBP
UK pound sterling – GBP

15. – International organization for standardization
International organization for standardization
(ISO) has assigned the above codes.
(ISO) has assigned the above codes.
Generally currency code is composed of the
Generally currency code is composed of the
country’s two character code plus extra
country’s two character code plus extra
character to denote the currency unit
character to denote the currency unit
• Swiss Franc – CHF (Confoederatio Helvetica)
Swiss Franc – CHF (Confoederatio Helvetica)
• Canadian dollar – CAD
Canadian dollar – CAD
• Australian dollar – AUD
Australian dollar – AUD
• New Zealand dollar – NZD
New Zealand dollar – NZD
• Indian rupee – INR
Indian rupee – INR

16. – Currencies trade in pairs in foreign exchange market.
Currencies trade in pairs in foreign exchange market.
This involves simultaneously buying one currency and
This involves simultaneously buying one currency and
selling another currency.
selling another currency.
– Important currency pairs are
Important currency pairs are
• EUR/USD
EUR/USD
• USD/JPY
USD/JPY
• GBP/USD
GBP/USD
• USD/CHF
USD/CHF
• USD/CAD
USD/CAD
• AUD/USD
AUD/USD
• NZD/USD
NZD/USD

17. – The first currency in the pair is considered the
The first currency in the pair is considered the
base currency and the second currency is the
base currency and the second currency is the
quote currency
quote currency
– Most of the time, the US dollar acts as the
Most of the time, the US dollar acts as the
base currency. Quotes are expressed in units
base currency. Quotes are expressed in units
of US $1 per quote currency.
of US $1 per quote currency.

18. Exchange Rates
Exchange Rates
 Need of exchange of currency of one country
Need of exchange of currency of one country
or another country.
or another country.
 Inflow or outflow of goods, capital or services,
Inflow or outflow of goods, capital or services,
cross border movement of man power travel and
cross border movement of man power travel and
tourism.
tourism.
 Foreign exchange has become an integral part of
Foreign exchange has become an integral part of
the world financial system.
the world financial system.

19. Definition
Definition
(FEMA) defines
(FEMA) defines
1.
1. Foreign Exchange means foreign currency, and includes
Foreign Exchange means foreign currency, and includes
(a) All deposits, credits and balances payable in foreign
(a) All deposits, credits and balances payable in foreign
currency, and any drafts, travellers chques, letter of credit
currency, and any drafts, travellers chques, letter of credit
and bills of exchange expressed or drawn in Indian
and bills of exchange expressed or drawn in Indian
currency and payable in any foreign currency.
currency and payable in any foreign currency.
(b) Any instrument payable at the option of the drawee or
(b) Any instrument payable at the option of the drawee or
holder, then of or any other party then to, either in Indian
holder, then of or any other party then to, either in Indian
currency or its foreign currency or partly in one and partly
currency or its foreign currency or partly in one and partly
in the other.
in the other.
2.
2. Exchange rate is the price or the ratio or the value at
Exchange rate is the price or the ratio or the value at
which one currency is exchanged for another currency.
which one currency is exchanged for another currency.
3.
3. Exchange rate is the dynamic rate.
Exchange rate is the dynamic rate.

20. Who Uses Foreign Exchange?
Who Uses Foreign Exchange?
 Comprise individuals, business entities, banks investors, users and
Comprise individuals, business entities, banks investors, users and
arbitrageurs, across the globe.
arbitrageurs, across the globe.
 OTC (over the counter) communication system based, with no boundries
OTC (over the counter) communication system based, with no boundries
and round the clock.
and round the clock.
 Tokyo and Sydney (east) through Hong Kong, Singapore, Middle East,
Tokyo and Sydney (east) through Hong Kong, Singapore, Middle East,
India, London, Europe, New York – Different time zones.
India, London, Europe, New York – Different time zones.
 Participants:
Participants:
Central Banks
Central Banks
Commercial Banks
Commercial Banks
Investment funds / Banks
Investment funds / Banks
Forex Brokers
Forex Brokers
Corporations
Corporations
Individual
Individual
 Global forex turnover US $ 1.90 trillion trade turnover 750 Billion (other
Global forex turnover US $ 1.90 trillion trade turnover 750 Billion (other
investment / speculation) India turn over 1.20 billion
investment / speculation) India turn over 1.20 billion

21. Factors Affecting Exchange Rates
Factors Affecting Exchange Rates
Exchange control
Exchange control
Balance of payment
Balance of payment
Relative price – inflation, asset market,
Relative price – inflation, asset market,
economic growth rate, monetary policy
economic growth rate, monetary policy
Interest rate
Interest rate
Political issues
Political issues
Demand and supply – visible / invisible trade
Demand and supply – visible / invisible trade
export and import, services, shipping, insurance
export and import, services, shipping, insurance
banking, tourists, student studying, gifts
banking, tourists, student studying, gifts

22. Currency Trading Trends
Currency Trading Trends
Foreign exchange trading volume is $1.9
Foreign exchange trading volume is $1.9
trillion a day
trillion a day
It is estimated 95% of foreign exchange
It is estimated 95% of foreign exchange
transactions are speculation
transactions are speculation
This usually relates to global capital
This usually relates to global capital
sucking the most profitable return tn the
sucking the most profitable return tn the
shortest period of time.
shortest period of time.

23. UK & US accounted for the 50% of the daily
UK & US accounted for the 50% of the daily
turnover while Japan 8% and Singapore 5% of
turnover while Japan 8% and Singapore 5% of
the average daily turnover
the average daily turnover
The major attraction of foreign exchange
The major attraction of foreign exchange
markets include
markets include
 High liquidity level
High liquidity level
 High accessibility for many different types of
High accessibility for many different types of
participants.
participants.
 Efficiency
Efficiency

24. The USD, Euro, UK pound and Japanese
The USD, Euro, UK pound and Japanese
continue to be the four most important
continue to be the four most important
currencies in the world and account for the
currencies in the world and account for the
dominant share of foreign exchange
dominant share of foreign exchange
trading.
trading.
There is also a notion that currencies have
There is also a notion that currencies have
become an asset class in themselves as
become an asset class in themselves as
investors search for yield around the
investors search for yield around the
globe.
globe.

25. Exchange Rates & Their
Exchange Rates & Their
Movements
Movements
There is no exchange rate model that can
There is no exchange rate model that can
predict future currency prices with 100%
predict future currency prices with 100%
accuracy.
accuracy.
In rapidly growing global foreign exchange
In rapidly growing global foreign exchange
markets, currency movements become harder to
markets, currency movements become harder to
predict as more participants enter the market on
predict as more participants enter the market on
daily basis.
daily basis.
Research, opinions, emotions, expectations
Research, opinions, emotions, expectations
about where currencies headed.
about where currencies headed.

26. Currency movements in the short term
Currency movements in the short term
can be influenced by publicly available
can be influenced by publicly available
information's –
information's –

a)
a) Country’s GDP data
Country’s GDP data
b)
b) Consumer price index
Consumer price index
c)
c) Employment data
Employment data
 Central banks, such as the US Federal
Central banks, such as the US Federal
reserve or the European Central bank
reserve or the European Central bank
raising or covering interest rates
raising or covering interest rates

27.  Central banks making public their thoughts on
Central banks making public their thoughts on
monetary policy
monetary policy
 Political developments, both globally and in
Political developments, both globally and in
individual countries.
individual countries.
 Natural disasters and perceptions about how
Natural disasters and perceptions about how
they will impact economies.
they will impact economies.
 Changes in commodity prices, particularly oil
Changes in commodity prices, particularly oil
and gold.
and gold.

28.  Individual traders – in – house strategic analyze an
Individual traders – in – house strategic analyze an
currencies or buy & sell orders that come from
currencies or buy & sell orders that come from
customers, which can affect the decisions process of
customers, which can affect the decisions process of
market participants.
market participants.
 FOMC – Federal Open Market committee
FOMC – Federal Open Market committee
If a country’s stock market rallies, its currency
If a country’s stock market rallies, its currency
could strengthen – the correlation between
could strengthen – the correlation between
stocks and currencies is strong enough to make
stocks and currencies is strong enough to make
currency traders watch stock markets for cues
currency traders watch stock markets for cues
on the performance of currencies.
on the performance of currencies.

29. If oil prices surge to record high, it can
If oil prices surge to record high, it can
have a negative impact on some
have a negative impact on some
currencies.
currencies.
An increase in a country’s unemployment
An increase in a country’s unemployment
numbers can have a negative impact on
numbers can have a negative impact on
its currency
its currency
If a country’s Central bank makes a
If a country’s Central bank makes a
surprise decision to raise rates by more
surprise decision to raise rates by more
than expected, its currency could rally.
than expected, its currency could rally.

30. Exchange Rate Mechanism
Exchange Rate Mechanism
• Spot - settlement / delivery of funds takes place on the
second after / following the date of contract deal 21.7.09
- 23.7.09
• Forward - Delivery takes place after day
• Ready Cash - settlement on the same day 21.7.09 -
21.7.09
• TOM - settlement takes place next day of date of deal
21.7.09 - 22.7.09
• Value date - The date of delivery of funds on the date on
which the exchange of currencies actually takes place is
also referred as value date

31. Forward Margins
Forward Margins
 Forward rate are derived from spot rates and are either at premium
Forward rate are derived from spot rates and are either at premium
or discount. (forward margin)
or discount. (forward margin)
Forward rate= spot rate +/- premium or discount
Forward rate= spot rate +/- premium or discount
 Forward value of the currency is higher than the spot (present)
Forward value of the currency is higher than the spot (present)
value, the currency is said to be in premium.
value, the currency is said to be in premium.
 ₤
₤ = $ 1.8350 21.7.09
= $ 1.8350 21.7.09
₤
₤ = $ 1.8450 21.8.09 (100 pips)
= $ 1.8450 21.8.09 (100 pips)
GBP- is dearer and at Premium
GBP- is dearer and at Premium
USD – is at Discount against GBP
USD – is at Discount against GBP

32.  1$ = 47.50/52 Spot (21.7.09)
1$ = 47.50/52 Spot (21.7.09)
 1 USD being bought at 47.50 & sold at 47.52
1 USD being bought at 47.50 & sold at 47.52
 40/42 Six month premium
40/42 Six month premium
 It means that USD being quoted dearer in forward &
It means that USD being quoted dearer in forward &
is quoted 47.90/94
is quoted 47.90/94
 Rupee is quoted at discount
Rupee is quoted at discount
 The correlations clearly established as the quotes
The correlations clearly established as the quotes
are for a pair of currencies, where one is
are for a pair of currencies, where one is
exchanged for another.
exchanged for another.
 The forward premiums & discount are based on
The forward premiums & discount are based on
the interest rate differentials of two currencies
the interest rate differentials of two currencies
involved as also the demand and supply of
involved as also the demand and supply of
forward in the markets
forward in the markets

33.  Direct – one unit of FC to so many units of home
Direct – one unit of FC to so many units of home
currency (variable).
currency (variable).
Indirect – one unit of home currency to so many
Indirect – one unit of home currency to so many
units of FC (GBP, Euro, AUd, NZd, indirect rates)
units of FC (GBP, Euro, AUd, NZd, indirect rates)
 Purchase and Sale
Purchase and Sale
Export – purchase – FC to Rs (domestic
Export – purchase – FC to Rs (domestic
currencies)
currencies)
Import sale – sale – Rs to FC
Import sale – sale – Rs to FC
Outward – sale
Outward – sale
Inward – purchase
Inward – purchase
US $ 1 = 40.50 Buy Low (give less)
US $ 1 = 40.50 Buy Low (give less)
= 40.52 Sell High (take more)
= 40.52 Sell High (take more)

34.  When we deal in a market where rate for a particular
When we deal in a market where rate for a particular
currency pair are not
currency pair are not directly available
directly available, the price for
, the price for
the said currency pair is then obtained
the said currency pair is then obtained indirectly
indirectly with
with
help of a cross rate mechanism.
help of a cross rate mechanism.
 Quote for Euro / Rupee
Quote for Euro / Rupee
 No one will quote Euro / Rupee
No one will quote Euro / Rupee Directly
Directly
 The rate can be worked out by the Euro/USD & USD/Rupee
The rate can be worked out by the Euro/USD & USD/Rupee
quotes.
quotes.
 Euro/USD is available in the international market.
Euro/USD is available in the international market.
 USD/Rs is available in the domestic market.
USD/Rs is available in the domestic market.
Cross Rate
Cross Rate

35.  By crossing out USD in both the quotes, we
By crossing out USD in both the quotes, we
can arrive at Euro/Rs
can arrive at Euro/Rs
 For example we need to quote
For example we need to quote
GBP against INR
GBP against INR
USD/INR & GBP/USD
USD/INR & GBP/USD
to compute GBP / INR rate
to compute GBP / INR rate
1 USD = Rs 45.50/60
1 USD = Rs 45.50/60
$1.8340/50=
$1.8340/50= £
£ 1
1
£
£ 1= 83.447 Rs (buying)
1= 83.447 Rs (buying)
83.676 Rs (selling)
83.676 Rs (selling)

36. Fixed vs. Floating Rates
Fixed vs. Floating Rates
 Fixed Exchange rate is official rate set by
Fixed Exchange rate is official rate set by
the monetary authorities for one or more
the monetary authorities for one or more
currencies. It is usually pegged to one or
currencies. It is usually pegged to one or
more currencies.
more currencies.
 Floating Exchange rate – The value of the
Floating Exchange rate – The value of the
currency is decided by supply and demand
currency is decided by supply and demand
factors
factors

37. Bid and Offer Rate
Bid and Offer Rate
 Buying rates and selling rates are also
Buying rates and selling rates are also
referred to as bid and offered rates (bid &
referred to as bid and offered rates (bid &
ask)
ask)
 In USD/INR = 47.00/02
In USD/INR = 47.00/02
 The quoting bank is bidding for USD at 47 and is
The quoting bank is bidding for USD at 47 and is
offering to sell the USD at 47.02
offering to sell the USD at 47.02
 On the other hand in GBP/USD = 1.8810/15
On the other hand in GBP/USD = 1.8810/15
 The quoting bank is willing to buy GBP at 1.8810
The quoting bank is willing to buy GBP at 1.8810
and willing to sell at 1.8815.
and willing to sell at 1.8815.