Currency risk Y3Q1 notes
Table of Contents
Training Week 1 (Chapter 6)...............................................................................................2
Training Week 2 (Chapter 7)...............................................................................................6
Training Week 3 (Recap of Chapter 7)...............................................................................13
Training Week 4 (Chapter 8).............................................................................................17
Training Week 5 (Chapter 10)...........................................................................................22
Training Week 6 (Chapter 11)...........................................................................................27
Training Week 7 (Chapter 11)...........................................................................................32
,Training Week 1 (Chapter 6)
Chapter 6 learning objectives:
-Examine the what, when, where and why of currency trading in the global marketplace.
-Understand the definitions and distinctions between spot, forward, swaps, and other types
of foreign exchange financial instruments.
-Learn the forms of currency quotations used by currency dealers, financial institutions and
agents of all kinds when conducting foreign exchange transactions.
-Analyze the interaction between changing currency values, cross exchange rates, and the
opportunities arising from intermarket arbitrage.
Foreign exchange market (FOREX)
A foreign exchange transaction: an agreement between a buyer and a seller that a fixed
amount of one currency will be delivered for some other currency at a specified rate
(agreement: buyer + seller, traded: foreign amount of currency and foreign currency)
The FOREX markets provide the physical and institutional structure through which
-The money of one country (currency) is exchanged for that of another country
-The rate of exchange between currencies is determined
-Foreign exchange transactions are ‘physically’ completed
Characteristics of FOREX
1.The geographic extent
2.The daily transaction volume (size of the market)
3.The functions of FOREX markets
Forex markets provide the mechanism by which participants:
-Transfer purchasing power between countries
-Obtain or provides credit for international trade transactions
-Minimize exposure to exchange rate risk
The FOREX market consists of two tiers/two levels:
-The interbank or wholesale market
-The client or retail market (over the counter)
4.The market’s participants
Operating in the wholesale and/or retail market
Speculators and arbitragers (benefit for exchange rate differences):
-Trading for themselves to make more money by:
exchange rate changes (speculator)
exchange rate differences in different market (arbitrage) focus on more than 1 market
Banks and non-bank exchange dealers:
-Trading for customers or for themselves (market makers, inventory position)
-Exchange dealers
,-Earn money by:
spread bid/ask
changes in exchange rates
Central banks and treasuries:
-Influence exchange rates of own currency (for benefit of citizens of their country) willing to
take loss if needed
Individuals and firms:
-Commercial transactions (importers, exporters)
-investment transactions
-tourists/exchange students
Foreign exchange brokers:
-Facilitate trading between dealers
-not themselves party, no positions
-dealers stay anonymous
5.Types of transactions including spot, forward and swaps
Spot: requires almost immediate delivery of foreign exchange
Forward: requires delivery of foreign exchange at some future date of a specified amount of
one currency for another
-The exchange rate is established at the time of the agreement but payment and delivery
are not required until maturity
-Forward rates are contracts quoted for value dates of one, two, three, nine, twelve months
Swap: simultaneous exchange of one foreign currency for another for two different value
dates (a temporarily exchange)
Free floating currencies
-No state intervention on FOREX markets: exchange rates reflect supply and demand
conditions
-Examples $, ¥ (yen), £, €
Fixed exchange rates
Central Bank buys or sells its currency at a fixed price in order to stabilize the value to
another currency
Examples: gold standard; Bretton Woods ($ key role), EU currencies before start of the €
Managed Floating exchange rates
Examples ¥ (Chinese Yuan)
, 6.Methods of stating exchange rates, quotations and changes in exchange rates
Quotes= professional dealers or brokers may state quotes in one of two ways
When reading currencies:
Left side= measure
Right side= unit
When reading it you first say measure, then unit
Your home country is on the left side !!!!!
For example: Sfr 1.6000/$ I have to pay 1.600 Swiss francs for one dollar
Direct quote= home currency price of a unit of a foreign currency
EUR0.82/$1 home is on the measure side(left) direct quote in Europe
Indirect quote= foreign currency price in a unit of the home currency
EUR 0.8214/USD 1.00 home is on the unit side (right) indirect quote in the US
Home on left side= direct
Home on right side= indirect
You write it: Symbol then measure
If exercise doesn’t state the country, assume home country is the US!!!!!
Bid= price at which a dealer will buy another currency
Ask/offer= price at which a dealer will sell another currency
Expressing forward quotations on a points basis:
-Forward quotes are different and typically quoted in terms of points
-A point is the last digit of a quotation, with convention dictating the number of digits to the
right of the decimal
0.0014= 14
0.0022= 22
Outright forward= outright spot + points
Table of Contents
Training Week 1 (Chapter 6)...............................................................................................2
Training Week 2 (Chapter 7)...............................................................................................6
Training Week 3 (Recap of Chapter 7)...............................................................................13
Training Week 4 (Chapter 8).............................................................................................17
Training Week 5 (Chapter 10)...........................................................................................22
Training Week 6 (Chapter 11)...........................................................................................27
Training Week 7 (Chapter 11)...........................................................................................32
,Training Week 1 (Chapter 6)
Chapter 6 learning objectives:
-Examine the what, when, where and why of currency trading in the global marketplace.
-Understand the definitions and distinctions between spot, forward, swaps, and other types
of foreign exchange financial instruments.
-Learn the forms of currency quotations used by currency dealers, financial institutions and
agents of all kinds when conducting foreign exchange transactions.
-Analyze the interaction between changing currency values, cross exchange rates, and the
opportunities arising from intermarket arbitrage.
Foreign exchange market (FOREX)
A foreign exchange transaction: an agreement between a buyer and a seller that a fixed
amount of one currency will be delivered for some other currency at a specified rate
(agreement: buyer + seller, traded: foreign amount of currency and foreign currency)
The FOREX markets provide the physical and institutional structure through which
-The money of one country (currency) is exchanged for that of another country
-The rate of exchange between currencies is determined
-Foreign exchange transactions are ‘physically’ completed
Characteristics of FOREX
1.The geographic extent
2.The daily transaction volume (size of the market)
3.The functions of FOREX markets
Forex markets provide the mechanism by which participants:
-Transfer purchasing power between countries
-Obtain or provides credit for international trade transactions
-Minimize exposure to exchange rate risk
The FOREX market consists of two tiers/two levels:
-The interbank or wholesale market
-The client or retail market (over the counter)
4.The market’s participants
Operating in the wholesale and/or retail market
Speculators and arbitragers (benefit for exchange rate differences):
-Trading for themselves to make more money by:
exchange rate changes (speculator)
exchange rate differences in different market (arbitrage) focus on more than 1 market
Banks and non-bank exchange dealers:
-Trading for customers or for themselves (market makers, inventory position)
-Exchange dealers
,-Earn money by:
spread bid/ask
changes in exchange rates
Central banks and treasuries:
-Influence exchange rates of own currency (for benefit of citizens of their country) willing to
take loss if needed
Individuals and firms:
-Commercial transactions (importers, exporters)
-investment transactions
-tourists/exchange students
Foreign exchange brokers:
-Facilitate trading between dealers
-not themselves party, no positions
-dealers stay anonymous
5.Types of transactions including spot, forward and swaps
Spot: requires almost immediate delivery of foreign exchange
Forward: requires delivery of foreign exchange at some future date of a specified amount of
one currency for another
-The exchange rate is established at the time of the agreement but payment and delivery
are not required until maturity
-Forward rates are contracts quoted for value dates of one, two, three, nine, twelve months
Swap: simultaneous exchange of one foreign currency for another for two different value
dates (a temporarily exchange)
Free floating currencies
-No state intervention on FOREX markets: exchange rates reflect supply and demand
conditions
-Examples $, ¥ (yen), £, €
Fixed exchange rates
Central Bank buys or sells its currency at a fixed price in order to stabilize the value to
another currency
Examples: gold standard; Bretton Woods ($ key role), EU currencies before start of the €
Managed Floating exchange rates
Examples ¥ (Chinese Yuan)
, 6.Methods of stating exchange rates, quotations and changes in exchange rates
Quotes= professional dealers or brokers may state quotes in one of two ways
When reading currencies:
Left side= measure
Right side= unit
When reading it you first say measure, then unit
Your home country is on the left side !!!!!
For example: Sfr 1.6000/$ I have to pay 1.600 Swiss francs for one dollar
Direct quote= home currency price of a unit of a foreign currency
EUR0.82/$1 home is on the measure side(left) direct quote in Europe
Indirect quote= foreign currency price in a unit of the home currency
EUR 0.8214/USD 1.00 home is on the unit side (right) indirect quote in the US
Home on left side= direct
Home on right side= indirect
You write it: Symbol then measure
If exercise doesn’t state the country, assume home country is the US!!!!!
Bid= price at which a dealer will buy another currency
Ask/offer= price at which a dealer will sell another currency
Expressing forward quotations on a points basis:
-Forward quotes are different and typically quoted in terms of points
-A point is the last digit of a quotation, with convention dictating the number of digits to the
right of the decimal
0.0014= 14
0.0022= 22
Outright forward= outright spot + points
