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Contents
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Definition and Organization of the Foreign Exchange Markets. Foreign Exchange Market Functions. Foreign Exchange Market Participants. Size and Structure of Foreign Exchange Market Transactions. Types of Foreign Exchange Market Transactions. Quotations of Currencies on Foreign Exchange Markets.
foreign exchange markets are markets on which individuals, firms and banks, buy and sell foreign currencies:
o foreign exchange trading occurs with the help of the
telecommunication net between buyers and sellers of foreign exchange that are located all over the world. o can actually talk about a single international foreign exchange market for every single currency. o foreign exchange trading takes place at least in some of the world financial centers in every moment. interbank-markets client markets
Clearing of currencies:
o service of exchanging one currency for
another
o
Provision of Credit:
o trader that bought a certain good from the
manufacturer, needs time to sell this good to the final customer and to pay the manufacturer with the money he received from the customer
Hedging: o activities with which the foreign exchange market participants avoid exchange rate risk or activities with which they are closing their open foreign exchange position o closed foreign exchange position: o size of the assets in a certain currency is equal to the size of the liabilities in the same currency o full insurance against exchange rate risk with respect to this currency o open foreign exchange position: o long: net assets in a certain currency o short: net liabilities in a certain currency o in the spot or forward foreign exchange market o standardized forward contracts and options
Foreign Exchange Market Participants Economic Agents and Types of Activities on Foreign Exchange Markets
Client buys $ with
Local bank
Bro kers
Local bank
commercial banks:
o the most important group of foreign exchange
market participants o they buy and sell foreign currencies for their clients and trade for themselves
Economic Agents and Motivation for the Foreign Exchange Market Participation
o
arbitragers:
o they want to earn a profit without taking any kind
rate differences in different markets o making use of the interest rate differences that exist in national financial markets of two countries along with transactions on spot and forward foreign exchange market at the same time (covered interest parity)
Continuing
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participating in the market, they want to insure themselves against the exchange rate changes o speculators think they know what the future exchange rate of a particular currency will be, and they are willing to accept exchange rate risk with the goal of making profit o every foreign exchange market participant can behave either as a hedger or as a speculator in the context of a particular transaction
Percentage 87 30 21 11 5 7 39 200,00
820 400
420 -
1190 520
670 45
1490 590
900 97
350
Definition: number of units of $ needed to buy a unit of a foreign currency Definition: number of units of a foreign currency needed to buy $1 Direct quotation in the USA: number of units of a domestic currency ($) needed to buy a unit of foreign currency Direct quotation outside the USA: number of units of a domestic currency needed to buy a unit of a foreign currency ($) Indirect quotation outside the USA: number of units of a foreign currency ($) needed to buy a unit of a domestic currency Indirect quotation in the USA : number of units of a foreign currency needed to buy a unit of a domestic currency
Continuing
bid price and offer/sell price quotation: o bid price is the exchange rate at which a bank is willing to buy another currency o offer/sell price is the exchange rate at which the same bank is willing to sell the currency in question o transaction costs: o banks usually do not charge provision o difference between the bid and offer/sell price represents the banks profit and is called a margin or spread
o
Continuing
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inconsistency between currency quotations in different financial centers o buying a particular currency in one financial center and selling it in another financial