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Forex Presentation Paritat

The document provides an overview of the foreign exchange market, including its history, key concepts, instruments and operations. It discusses spot transactions, outright forwards, foreign exchange swaps and continuous linked settlement. The FX market is decentralized and conducts over $1 trillion in transactions daily, with London, New York and Tokyo being major trading centers.

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Nitin Nagpure
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39 views22 pages

Forex Presentation Paritat

The document provides an overview of the foreign exchange market, including its history, key concepts, instruments and operations. It discusses spot transactions, outright forwards, foreign exchange swaps and continuous linked settlement. The FX market is decentralized and conducts over $1 trillion in transactions daily, with London, New York and Tokyo being major trading centers.

Uploaded by

Nitin Nagpure
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PPT, PDF, TXT or read online on Scribd
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Foreign Exchange

Market Overview
Convention and Terminology
Mechanics and Operations
Instruments

, CFA, FRM
9 August 2006

Historical Perspective
1880-1914 : Gold Standards
1918-1939 : The War Periods
1944-1970 : The Gold
Exchange Standard
1971-1973 : The Collapse of
Bretton Woods
1985 : The Plaza Accord
1997 : Floatation of Thai Baht
1999 : Introduction of the Euro
2002 : Continuous Linked
Settlement (CLS)

2006 , CFA, FRM

Settlement
Every trade executed has to be settled.
Settlement risk is the risk that one side to a transaction
pays out its obligation in one time zone but the
counterparty to the transaction fails to make the
corresponding payment in a different time zone.
A number of initiatives : FXNET, the oldest and the most
successful, provides an automated bilateral netting
solution, which is a legally binding agreement between
pairs of counterparties in which transactions are netted
continually throughout the trading day.
Today around 20% of all FX transaction obligations are
netted via FXNET.
2006 , CFA, FRM

Continuous Linked Settlement


In September 2002, the CLS Bank was launched to
provide a solution called Continuous Linked Settlement.
CLS operates by linking all of the worlds settlement
periods and indeed, truncating them, into a period of just
five hours.
Acting in effect as a clearing hours, CLS receives
payments in but does not pay them out until the
correspondent payments are also received.
Hence, CLS settles FX transaction on a payment-versuspayment (PVP) basis in the book of CLS Bank.
CLS eliminates settlement risk and reduces the liquidity
needed.
2006 , CFA, FRM

The Foreign Exchange Market

Financial Market Structure


Foreign
Exchange
Markets

Money
Markets

Capital
Markets

Derivatives
Markets

Bond
Markets

Equity
Markets

2006 , CFA, FRM

Basic Definition
A Currency is a medium of exchange, coins or notes,
used to buy goods or services. Most countries have their
own currency, issued by an official agency called a
central bank or a monetary authority.
Foreign Exchange (F/X or Forex) is the transaction that
involves the purchase of one currency against the sale of
another currency for settlement or delivery on a specified
date.
The Exchange Rate is the
price per unit of one of the
currencies expressed in
units of the other currency.
2006 , CFA, FRM

Foreign Exchange Markets


A complex network of global
over-the-counter institutions
and structures
3 Key functions :
Exchange of one currency
for another (transfer of
purchasing power)
Management of exchange
rate risk (transfer of risk)
Exchange rate
determination
The market is geographically
dispersed.
The U.S. dollar makes up the
highest percentage of the total
daily turnover shares.

Percentage Shares of Daily Turnover


Currency

2001

USD

90.4

EUR

37.6

JPY

22.7

GBP

13.2

CHF

6.1

CAD

4.5

AUD

4.2

SEK

2.6

HKD

2.3

SGD

1.1

Emerging Markets

5.2

Other

10.1

Source : Bank for International Settlements (BIS)

TOTAL

2006 , CFA, FRM

200

Market Overview
The Foreign Exchange Market allows market participants
to exchange one currency for another. It is a
communication network linking all participants.
Foreign exchange market is the single
largest market in the world. More
than USD 1.2 trillion is traded in
the FX market each day.
London (38%) is the largest trading
center in the world, followed by
New York (22%), Tokyo (10%), and Singapore (9%).

2006 , CFA, FRM

Foreign Exchange Instruments

Foreign Exchange Instruments


Foreign Exchange Instruments

FX Transactions

Spot FX

FX Derivatives

Forward FX

Forward Outright

FX Swaps

2006 , CFA, FRM

11

Foreign Exchange Transaction

A foreign exchange transaction


is composed of spot, outright
forward, and swaps.
Average daily turnover for all
currencies in April 1998 was
$1.4415 trillion (in 2001 was
$1.210 trillion).
Transaction breakdown in
2001 was :
32 percent spot
transactions,
11 percent over-thecounter forwards, and
54 percent foreign
exchange swaps.

Percentage Shares of Daily Turnover


Instruments

Daily Averages
(Billion of USD)

Spot Transactions

387

Outright Forwards

131

Foreign Exchange
Swaps

656

TOTAL Turnover

1,210

Source : Bank for International Settlements (BIS)

2006 , CFA, FRM

12

Spot Transactions
A spot transaction involves the exchange of one
currency for another at an agreed exchange rate to be
settled in cash in two business days between two
counterparties.
Spot transactions account for about 32 percent of all
transactions in the foreign exchange market.
A spot transaction is intended to transfer purchasing
power from one party to another.
ON

1M

TN

6M

1Y

Time
Today

Tom

Spot

1M + Spot

6M + Spot

2006 , CFA, FRM

1Y + Spot

13

Spot Foreign Exchange


The normal settlement period for spot deals is
two working or business days.
About one-third of all the business transacted in
the foreign exchange market is for settlement or
value date spot.
For example, if the deal is done on Thursday,
then the spot date would be Monday.

2006 , CFA, FRM

14

Example : Spot Quotation USD/THB


Spot rate : USD/THB
38.600/620
Base currency is US dollar.
Counter currency is Thai baht.
38.600
(bid)

38.620
(offer)

Bank bids for USD against THB


Client sells USD and buys THB

Bank offers USD against THB


Client buys USD and sells THB

2006 , CFA, FRM

15

Example : Spot Transaction


A Thai company receives $100,000 and needs
to convert this money into Thai baht.
TODAY

USA

$100,000

Spot FX Deal @ 38.600


Thai
Company

SPOT

Thai
Company

$100,000

SPOT

Thai
Company

THB 3,860,000

2006 , CFA, FRM

Bank

Bank

Bank

16

Outright Forwards
An outright forward is an over-the-counter transaction
involving the exchange of one currency at the forward
exchange rate determined today for the delivery to take
place for cash settlement in more than two business
days.
About 11 percent of all transactions in the foreign
exchange market are forward contracts.
A forward transaction is intended to transfer risk from
one party to another. Transferring risk is hedging that is
intended to reduce the exposure to foreign exchange
risk.

2006 , CFA, FRM

17

Forward Outright
An outright forward exchange deal is a contract to buy or
sell a given amount of currency for settlement at some
future date, at a rate of exchange which is agreed at the
time of dealing. No money changes hand until the
settlement date.
Generally it is possible to obtain a forward rate of
exchange for up to one year for most traded currencies.
The purpose of obtaining a forward rate of exchange is
simply to establish and fix the cost of exchange for a
known foreign currency commitment at some future
date.

2006 , CFA, FRM

18

Forward F/X Rates

Forward Points = Forward Outright Spot FX Rate

Forward Outright = Spot FX Rate +/- Forward Points

2006 , CFA, FRM

19

Foreign Exchange Swaps


A foreign exchange swap (a spot/forward swap) is a
contract to exchange currencies in principal amount only
in two business days (the short leg) and reversal of the
exchange of the same two currencies at a date in the
future (a long leg).
An FX Swap is the combination of a spot deal with a
simultaneous forward deal.
A FOREX swap is the portfolio of long and short
positions entered simultaneously at two different dates
prevailing in the future.
The simultaneous purchase and sale of a specified
amount of one currency in exchange for two different
value dates.
A swap transaction is essentially a financing at a fully
collateralized basis.
2006 , CFA, FRM

20

Foreign Exchange Swaps


Sell/Buy (S/B)
Near Leg : Sell fixed amount of Base Currency
Far Leg : Buy fixed amount of Base Currency
Buy/Sell (B/S)
Near Leg : Buy fixed amount of Base Currency
Far Leg : Sell fixed amount of Base Currency

2006 , CFA, FRM

21

Forward-Forwards
When the short leg of the FX swap is more than two
business days, then the swap is called a forward/forward
swap.
A forward-forward swap is a swap deal between two
forward dates rather than from spot to a forward date.
FX forward-forwards are referred to by the beginning
and end dates of the forward period, compared with the
spot value date.
For example, to sell USD 1 month forward and buy them
back 3 months forward. In this case, the swap is for the
2-month period between the 1-month date and the 3month date : 1v3
2006 , CFA, FRM

22

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