The Spot Market Spot Rate Quotations The Bid-Ask Spread Spot FX trading Cross Rates

The Spot Market

Spot Rate Quotations The Bid-Ask Spread Spot FX trading Cross Rates

The New York foreign exchange selling rates below apply to trading among banks in amounts of $1 million and more, as quoted at 4 p.m. Eastern time by Dow Jones Telerate Inc. and other sources. Retail transactions provide fewer units of foreign currency per dollar.

Special Drawing Rights (SDR) are based on exchange rates for the U.S., German, British, French, and Japanese currencies. Source: International Monetary Fund. European Currency Unit (ECU) is based on a basket of community currencies. a-fixing, Moscow Interbank Currency Exchange.

EXCHANGE RATES

Country Argentina (Peso) Australia (Dollar) Austria (Schilling) Bahrain (Dinar) Belgium (Franc) Brazil (Real) Britain (Pound) 30-Day Forward 90-Day Forward 180-Day Forward Canada (Dollar) 30-Day Forward 90-Day Forward 180-Day Forward Chile (Peso) China (Renminbi) Colombia (Peso) Czech. Rep (Krouna) Commercial rate Denmark (Krone) Ecuador (Sucre) Floating rate Finland (Markka) France (Franc) 30-Day Forward 90-Day Forward 180-Day Forward Germany (Mark) 30-Day Forward 90-Day Forward 180-Day Forward Greece (Drachma) Hong Kong (Dollar) Hungary (Forint) India (Rupee) Indonesia (Rupiah) Ireland (Punt) Israel (Shekel) Italy (Lira)

Wed. 1.0012 .7805

.09043 2.6525 .03080 .9607

1.6880 1.6869 1.6843 1.6802 .7399 .7414 .7442 .7479

.002352 .1201

.0009985 ....

.03662 .1663

.... .0002766

.6430 .004049

.1292 .006139 .02787

.0004233 1.6664 .3079

.0006483

Tues. 1.0012 .7902

.09101 2.6525 .03105 .9615

1.6946 1.6935 1.6910 1.6867 .7370 .7386 .7413 .7450

.002356 .1201

.0009985 ....

.03677 .1677

.... .0002787

.6472 .004068

.1292 .006164

.02786 .0004233

1.6714 .3085

.0006510

Wed. .9988

1.2812 11.058 .3770

32.470 1.0409 .5924 .5928 .5937

.5952 1.3516 1.3488 1.3437 1.3370 425.25 8.3272

1001.50 ....

27.307 6.0118

.... 3615.00 4.7150 5.3220 5.3126 5.2935 5.2617 1.5744 1.5714 1.5652 1.5552 246.98 7.7390 162.89 35.875

2362.15 .6001

3.2474 1542.50

Tues. .9988

1.2655 10.988 .3770

32.205 1.0401 .5901 .5905 .5914 .5929

1.3568 1.3539 1.3489 1.3422 424.40 8.3276

1001.50 ....

27.194 5.9633

.... 3587.50 4.6841 5.2838 5.2741 5.2558 5.2243 1.5639 1.5607 1.5547 1.5450 245.80 7.7390 162.23 35.890

2362.63 .5983

3.2412 1536.00

U.S. $ equiv. per U.S. $Currency

Country Japan (Yen) 30-Day Forward 90-Day Forward 180-Day Forward Jordan (Dinar) Kuwait (Dinar) Lebanon (Pound) Malaysia (Ringgit) Malta (Lira) Mexico (Peso) Floating rate Netherland (Guilder) New Zealand (Dollar) Norway (Krone) Pakistan (Rupee) Peru (new Sol) Philippines (Peso) Poland (Zloty) Portugal (Escudo) Russia (Ruble) (a) Saudi Arabia (Riyal) Singapore (Dollar) Slovak Rep. (Koruna) South Africa (Rand) South Korea (Won) Spain (Peseta) Sweden (Krona) Switzerland (Franc) 30-Day Forward 90-Day Forward 180-Day Forward Taiwan (Dollar) Thailand (Baht) Turkey (Lira) United Arab (Dirham) Uruguay (New Peso) Financial Venezuela (Bolivar) SDR ECU

Wed. .008639 .008676 .008750 .008865

1.4075 3.3367

.0006445 .4018

2.7624 ....

.1540 .02529 .3814

.03800 .3460

.006307 .0001787

.7116 .03259 .2141

.001184

.007546 .1431 .7334 .7357 .7401 .7470

.03638

.03902 .00000911

.2723 ....

.1145 .002098

- - - 1.4315 1.2308

Tues. .008681 .008718 .008791 .008907 1.4075 3.3389

.0006445 .4002

2.7701 ....

.1548 .02529 .3840

.03802 .3475

.006369 .0001788

.7124 .03259 .2142

.001184

.007603 .1435 .7387 .7411 .7454 .7523

.03637

.03906 .00000915

.2723 ....

.1145 .002096

1.4326 1.2404

Wed. 115.75 115.26 114.28 112.80 .7105 .2997

1551.50 2.4885 .3620

.... 7.8220 1.7685 1.4140 6.4926 39.540 2.6218 26.318 2.8900 158.55

5595.00 3.7503 1.4053 30.688 4.6705 844.75 132.52 6.9865 1.3635 1.3593 1.3511 1.3386 27.489 25.625

109755.00 3.6720

.... 8.7300 476.70

.6986 ..........

Tues. 115.20 114.71 113.76 112.28 .7105 .2995

1551.50 2.4990 .3610

.... 7.8330 1.7547 1.4073 6.4599 39.540 2.6039 26.300 2.8780 157.02

5594.00 3.7502 1.4037 30.688 4.6690 844.65 131.53 6.9697 1.3537 1.3494 1.3416 1.3293 27.493 25.605

109235.00 3.6720

.... 8.7300 477.12

...........

U.S. $ equiv.Currencyper U.S. $Wednesday, January 8, 1997

Spot Rate Quotations

The direct quote for British pound is:

£1 = $1.688

EXCHANGE RATES

Wed. 1.0012 .7805

.09043 2.6525 .03080 .9607

1.6880 1.6869 1.6843 1.6802 .7399 .7414 .7442 .7479

.002352 .1201

.0009985 ....

.03662 .1663

.... .0002766

.6430 .004049

.1292 .006139 .02787

.0004233 1.6664 .3079

.0006483

Tues. 1.0012 .7902

.09101 2.6525 .03105 .9615

1.6946 1.6935 1.6910 1.6867 .7370 .7386 .7413 .7450

.002356 .1201

.0009985 ....

.03677 .1677

.... .0002787

.6472 .004068

.1292 .006164

.02786 .0004233

1.6714 .3085

.0006510

Wed. .9988

1.2812 11.058 .3770

32.470 1.0409 .5924 .5928 .5937

.5952 1.3516 1.3488 1.3437 1.3370 425.25 8.3272

1001.50 ....

27.307 6.0118

.... 3615.00 4.7150 5.3220 5.3126 5.2935 5.2617 1.5744 1.5714 1.5652 1.5552 246.98 7.7390 162.89 35.875

2362.15 .6001

3.2474 1542.50

Tues. .9988

1.2655 10.988 .3770

32.205 1.0401 .5901 .5905 .5914 .5929

1.3568 1.3539 1.3489 1.3422 424.40 8.3276

1001.50 ....

27.194 5.9633

.... 3587.50 4.6841 5.2838 5.2741 5.2558 5.2243 1.5639 1.5607 1.5547 1.5450 245.80 7.7390 162.23 35.890

2362.63 .5983

3.2412 1536.00

Wed. .008639 .008676 .008750 .008865

1.4075 3.3367

.0006445 .4018

2.7624 ....

.1540 .02529 .3814

.03800 .3460

.006307 .0001787

.7116 .03259 .2141

.001184

.007546 .1431 .7334 .7357 .7401 .7470

.03638

.03902 .00000911

.2723 ....

.1145 .002098

- - - 1.4315 1.2308

Tues. .008681 .008718 .008791 .008907 1.4075 3.3389

.0006445 .4002

2.7701 ....

.1548 .02529 .3840

.03802 .3475

.006369 .0001788

.7124 .03259 .2142

.001184

.007603 .1435 .7387 .7411 .7454 .7523

.03637

.03906 .00000915

.2723 ....

.1145 .002096

1.4326 1.2404

Wed. 115.75 115.26 114.28 112.80 .7105 .2997

1551.50 2.4885 .3620

.... 7.8220 1.7685 1.4140 6.4926 39.540 2.6218 26.318 2.8900 158.55

5595.00 3.7503 1.4053 30.688 4.6705 844.75 132.52 6.9865 1.3635 1.3593 1.3511 1.3386 27.489 25.625

109755.00 3.6720

.... 8.7300 476.70

.6986 ..........

Tues. 115.20 114.71 113.76 112.28 .7105 .2995

1551.50 2.4990 .3610

.... 7.8330 1.7547 1.4073 6.4599 39.540 2.6039 26.300 2.8780 157.02

5594.00 3.7502 1.4037 30.688 4.6690 844.65 131.53 6.9697 1.3537 1.3494 1.3416 1.3293 27.493 25.605

109235.00 3.6720

.... 8.7300 477.12

...........

The indirect quote for British pound is:

£.5924 = $1

EXCHANGE RATES

Wed. 1.0012 .7805

.09043 2.6525 .03080 .9607

1.6880 1.6869 1.6843 1.6802 .7399 .7414 .7442 .7479

.002352 .1201

.0009985 ....

.03662 .1663

.... .0002766

.6430 .004049

.1292 .006139 .02787

.0004233 1.6664 .3079

.0006483

Tues. 1.0012 .7902

.09101 2.6525 .03105 .9615

1.6946 1.6935 1.6910 1.6867 .7370 .7386 .7413 .7450

.002356 .1201

.0009985 ....

.03677 .1677

.... .0002787

.6472 .004068

.1292 .006164

.02786 .0004233

1.6714 .3085

.0006510

Wed. .9988

1.2812 11.058 .3770

32.470 1.0409 .5924 .5928 .5937

.5952 1.3516 1.3488 1.3437 1.3370 425.25 8.3272

1001.50 ....

27.307 6.0118

.... 3615.00 4.7150 5.3220 5.3126 5.2935 5.2617 1.5744 1.5714 1.5652 1.5552 246.98 7.7390 162.89 35.875

2362.15 .6001

3.2474 1542.50

Tues. .9988

1.2655 10.988 .3770

32.205 1.0401 .5901 .5905 .5914 .5929

1.3568 1.3539 1.3489 1.3422 424.40 8.3276

1001.50 ....

27.194 5.9633

.... 3587.50 4.6841 5.2838 5.2741 5.2558 5.2243 1.5639 1.5607 1.5547 1.5450 245.80 7.7390 162.23 35.890

2362.63 .5983

3.2412 1536.00

Wed. .008639 .008676 .008750 .008865

1.4075 3.3367

.0006445 .4018

2.7624 ....

.1540 .02529 .3814

.03800 .3460

.006307 .0001787

.7116 .03259 .2141

.001184

.007546 .1431 .7334 .7357 .7401 .7470

.03638

.03902 .00000911

.2723 ....

.1145 .002098

- - - 1.4315 1.2308

Tues. .008681 .008718 .008791 .008907 1.4075 3.3389

.0006445 .4002

2.7701 ....

.1548 .02529 .3840

.03802 .3475

.006369 .0001788

.7124 .03259 .2142

.001184

.007603 .1435 .7387 .7411 .7454 .7523

.03637

.03906 .00000915

.2723 ....

.1145 .002096

1.4326 1.2404

Wed. 115.75 115.26 114.28 112.80 .7105 .2997

1551.50 2.4885 .3620

.... 7.8220 1.7685 1.4140 6.4926 39.540 2.6218 26.318 2.8900 158.55

5595.00 3.7503 1.4053 30.688 4.6705 844.75 132.52 6.9865 1.3635 1.3593 1.3511 1.3386 27.489 25.625

109755.00 3.6720

.... 8.7300 476.70

.6986 ..........

Tues. 115.20 114.71 113.76 112.28 .7105 .2995

1551.50 2.4990 .3610

.... 7.8330 1.7547 1.4073 6.4599 39.540 2.6039 26.300 2.8780 157.02

5594.00 3.7502 1.4037 30.688 4.6690 844.65 131.53 6.9697 1.3537 1.3494 1.3416 1.3293 27.493 25.605

109235.00 3.6720

.... 8.7300 477.12

...........

Note that the direct quote is the reciprocal of the indirect quote:

1688.1

Triangular Arbitrage

Credit Lyonnais

S(£/$)=1.50

Credit Agricole

S(¥/£)=85

Barclays

S(¥/$)=120

Suppose we observe these banks posting these exchange rates.

First calculate the implied cross rates to see if an arbitrage exists.

Credit Lyonnais

S(£/$)=1.50

Credit Agricole

S(¥/£)=85

Barclays

S(¥/$)=120

50.1£

The implied S(¥/£) cross rate is S(¥/£) = 80

Credit Agricole has posted a quote of S(¥/£)=85 so there is an arbitrage opportunity.

So, how can we make money?

Credit Lyonnais

S(£/$)=1.50

Credit Agricole

S(¥/£)=85

Barclays

S(¥/$)=120

50.1£

As easy as 1 – 2 – 3:

1. Sell our $ for £,

2. Sell our £ for ¥,

3. Sell those ¥ for $.

Sell $100,000 for £ at S(£/$) = 1.50

receive £150,000

Sell our £ 150,000 for ¥ at S(¥/£) = 85

receive ¥12,750,000

Sell ¥ 12,750,000 for $ at S(¥/$) = 120receive $106,250

profit per round trip = $ 106,250- $100,000 = $6,250

Spot Foreign Exchange Microstructure

Market Microstructure refers to the mechanics of how a marketplace operates.

Bid-Ask spreads in the spot FX market: increase with FX exchange rate volatility and decrease with dealer competition.

Private information is an important determinant of spot exchange rates.

The Forward Market

Forward Rate Quotations Long and Short Forward Positions Forward Cross Exchange Rates Swap Transactions Forward Premium

The Forward Market

A forward contract is an agreement to buy or sell an asset in the future at prices agreed upon today.

If you have ever had to order an out-of-stock textbook, then you have entered into a forward contract.

Forward Rate Quotations

The forward market for FOREX involves agreements to buy and sell foreign currencies in the future at prices agreed upon today.

Bank quotes for 1, 3, 6, 9, and 12 month maturities are readily available for forward contracts.

Longer-term swaps are available.

Forward Rate Quotations

Consider the example from above:

for Japanese yen, the spot rate is

¥115.75 = $1.00

While the 180-day forward rate is

Y112.80 = $1.00 What’s up with that?

EXCHANGE RATES

Wed. 1.0012 .7805

.09043 2.6525 .03080 .9607

1.6880 1.6869 1.6843 1.6802 .7399 .7414 .7442 .7479

.002352 .1201

.0009985 ....

.03662 .1663

.... .0002766

.6430 .004049

.1292 .006139 .02787

.0004233 1.6664 .3079

.0006483

Tues. 1.0012 .7902

.09101 2.6525 .03105 .9615

1.6946 1.6935 1.6910 1.6867 .7370 .7386 .7413 .7450

.002356 .1201

.0009985 ....

.03677 .1677

.... .0002787

.6472 .004068

.1292 .006164

.02786 .0004233

1.6714 .3085

.0006510

Wed. .9988

1.2812 11.058 .3770

32.470 1.0409 .5924 .5928 .5937

.5952 1.3516 1.3488 1.3437 1.3370 425.25 8.3272

1001.50 ....

27.307 6.0118

.... 3615.00 4.7150 5.3220 5.3126 5.2935 5.2617 1.5744 1.5714 1.5652 1.5552 246.98 7.7390 162.89 35.875

2362.15 .6001

3.2474 1542.50

Tues. .9988

1.2655 10.988 .3770

32.205 1.0401 .5901 .5905 .5914 .5929

1.3568 1.3539 1.3489 1.3422 424.40 8.3276

1001.50 ....

27.194 5.9633

.... 3587.50 4.6841 5.2838 5.2741 5.2558 5.2243 1.5639 1.5607 1.5547 1.5450 245.80 7.7390 162.23 35.890

2362.63 .5983

3.2412 1536.00

Wed. .008639 .008676 .008750 .008865

1.4075 3.3367

.0006445 .4018

2.7624 ....

.1540 .02529 .3814

.03800 .3460

.006307 .0001787

.7116 .03259 .2141

.001184

.007546 .1431 .7334 .7357 .7401 .7470

.03638

.03902 .00000911

.2723 ....

.1145 .002098

- - - 1.4315 1.2308

Tues. .008681 .008718 .008791 .008907 1.4075 3.3389

.0006445 .4002

2.7701 ....

.1548 .02529 .3840

.03802 .3475

.006369 .0001788

.7124 .03259 .2142

.001184

.007603 .1435 .7387 .7411 .7454 .7523

.03637

.03906 .00000915

.2723 ....

.1145 .002096

1.4326 1.2404

Wed. 115.75 115.26 114.28 112.80 .7105 .2997

1551.50 2.4885 .3620

.... 7.8220 1.7685 1.4140 6.4926 39.540 2.6218 26.318 2.8900 158.55

5595.00 3.7503 1.4053 30.688 4.6705 844.75 132.52 6.9865 1.3635 1.3593 1.3511 1.3386 27.489 25.625

109755.00 3.6720

.... 8.7300 476.70

.6986 ..........

Tues. 115.20 114.71 113.76 112.28 .7105 .2995

1551.50 2.4990 .3610

.... 7.8330 1.7547 1.4073 6.4599 39.540 2.6039 26.300 2.8780 157.02

5594.00 3.7502 1.4037 30.688 4.6690 844.65 131.53 6.9697 1.3537 1.3494 1.3416 1.3293 27.493 25.605

109235.00 3.6720

.... 8.7300 477.12

...........

Clearly the market participants expect that the yen will be worth MORE in dollars in six months.

Long and Short Forward Positions

If you have agreed to sell anything (spot or forward), you are “short”.

If you have agreed to buy anything (forward or spot), you are “long”.

If you have agreed to sell forex forward, you are short.

If you have agreed to buy forex forward, you are long.

Payoff Profiles

0 S180($/¥)

F180($/¥) = .009524

Short positionloss

profitIf you agree to sell anything in the future at a set price and the spot price later falls then you gain.

If you agree to sell anything in the future at a set price and the spot price later rises then you lose.

Payoff Profiles

0 S180(¥/$)

F180(¥/$) = 105

-F180(¥/$)

profit

Whether the payoff profile

slopes up or down depends upon whether

you use the direct or indirect quote:

F180(¥/$) = 105 or F180($/¥) = .009524.

short position

Payoff Profiles

0 S180(¥/$)

F180(¥/$) = 105

-F180(¥/$)

When the short entered into this forward contract, he agreed to sell ¥ in 180 days at F180(¥/$) = 105

profitshort position

Payoff Profiles

0 S180(¥/$)

F180(¥/$) = 105

-F180(¥/$)

If, in 180 days, S180(¥/$) = 120, the short will make a profit by buying ¥ at S180(¥/$) = 120 and delivering ¥ at F180(¥/$) = 105.

profitshort position

Payoff Profiles

0 S180(¥/$)

F180(¥/$) = 105

Long position-F180(¥/$)

F180(¥/$) short positionprofit

Since this is a zero-sum game, the long position payoff is the

opposite of the short.

Payoff Profiles

0 S180(¥/$)

F180(¥/$) = 105

Long position

-F180(¥/$)profit

The long in this forward contract agreed to BUY ¥ in 180 days at F180(¥/$) = 105

If, in 180 days, S180(¥/$) = 120, the long will lose by having to buy ¥ at S180(¥/$) = 120 and

delivering ¥ at F180(¥/$) = 105.

–15¥

A swap is an agreement to provide a counterparty with something he wants in exchange for something that you want.

Swap transactions account for approximately 51 percent of interbank FX trading, whereas outright trades are less than 9 percent.

Comparative Advantage as the Basis for Swaps

Consider two firms A and B: firm A is a U.S.–based multinational and firm B is a U.K.–based multinational.

Both firms wish to finance a project in each other’s country of the same size. Their borrowing opportunities are given in the table below.

Company A 8.0% 11.6%

Company B 10.0% 12.0%

A is the more credit-worthy of the two firms.

A pays 2% less to borrow in dollars than B and A pays .4% less to borrow in pounds than B:

Comparative Advantage as the Basis for Swaps

Company B 10.0% 12.0%

A has a comparative advantage in borrowing in dollars

B has a comparative advantage in borrowing in pounds.

One Feasible Swap:

Company A

$8% £12%

£11%£12%

Company B 10.0% 12.0%

Company

$8% £12%

£11%£12%

A’s net position is to borrow at £11%

One Feasible Swap:

Company B 10.0% 12.0%

Company A

Company

$8% £12%

£11%£12%

B’s net position is to borrow at $9.4%

One Feasible Swap:

Company B 10.0% 12.0%

Company A

Company

$8% £12%

£11%£12%

One Feasible Swap:

Company B 10.0% 12.0%

Company A

Company

A saves £.6%

$8% £12%

£11%£12%

B saves $.6%$ £

Company B 10.0% 12.0%

One Feasible Swap:

Company A

Company

A saves £.6%

$8% £12%

£11%£12%

B saves $.6%

One Feasible Swap:

Company B 10.0% 12.0%

Company A

Company

A saves £.6%

The swap bank makes money too.

A swap can be viewed as a portfolio of spot and forward positions.

In the above example, firm A would borrow in dollars and then swap for pounds with the bank and simultaneously enter into a series of forward contracts with the bank to exchange dollars for pounds.

Forward Premium

It’s just the interest rate differential implied by forward premium or discount.

For example, appreciating from S($/DM) = .5235 to

F180($/DM) = .5307 The forward premium is given by:

01375.5235.

5235.5307.

)/($)/($180$,180

DMSDMFf DMv

The Spot Market Spot Rate Quotations The Bid-Ask Spread Spot FX trading Cross Rates

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