forex participants[1]

7/30/2019 FOREX Participants[1]

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2/31

London is Most Active FX Market


3/31

Daily Trading Volumes by Hour


4/31

Correspondent Banking

Relationships

Large commercial banks maintaindemand deposit accounts with oneanother which facilitates the efficient

functioning of the forex market. International commercial banks

communicate with one another with: SWIFT: The Society for Worldwide

Interbank Financial Telecommunications. CHIPS: Clearing House Interbank PaymentsSystem

ECHO Exchange Clearing House Limited, the

first global clearinghouse for settlinginterbank FOREX transactions.


5/31

Correspondent Banking


6/31

FX Turnover


7/31

Spot Rate Quotations

Direct quotation

the U.S. dollar equivalent

e.g.a Japanese Yen is worth about apenny

Indirect Quotation

the price of a U.S. dollar in the foreign

currency

e.g.you get 100 yen to the dollar


8/31


The directquote for

British pound

is:

1 = $1.5627

Country USDequivFriday

USD equivThursday

Currency perUSD Friday

Currency perUSD Thursday

Argentina (Peso) 0.3309 0.3292 3.0221 3.0377

Australia(Dollar)

0.5906 0.5934 1.6932 1.6852

Brazil (Real) 0.2939 0.2879 3.4025 3.4734

Britain (Pound) 1.5627 1.566 0.6399 0.6386

1 MonthForward

1.5596 1.5629 0.6412 0.6398

3 MonthsForward

1.5535 1.5568 0.6437 0.6423

6 MonthsForward

1.5445 1.5477 0.6475 0.6461

Canada (Dollar) 0.6692 0.6751 1.4943 1.4813

1 MonthForward

0.6681 0.6741 1.4968 1.4835

3 Months

Forward

0.6658 0.6717 1.502 1.4888

6 Months 0.662 0.6678 1.5106 1.4975


9/31


The indirect

quote for

Britishpound is:

.6399 = $1

1.49751.51060.66780.6626 Months Forward

1.48881.5020.67170.66583 Months Forward

1.48351.49680.67410.66811 Month Forward

1.48131.49430.67510.6692Canada (Dollar)

0.64610.64751.54771.54456 Months Forward

0.64230.64371.55681.55353 Months Forward

0.63980.64121.56291.55961 Month Forward

0.63860.63991.5661.5627Britain (Pound)

3.47343.40250.28790.2939Brazil (Real)

1.68521.69320.59340.5906Australia (Dollar)

3.03773.02210.32920.3309Argentina (Peso)

Currency per

USD Thursday

Currency per

USD Friday

USD equiv

Thursday

USD equiv

FridayCountry


10/31


Note that

the direct

quote is thereciprocal

of the

indirect

quote:

11.5627

.63991.49751.51060.66780.6626 Months Forward

1.48881.5020.67170.66583 Months Forward

1.48351.49680.67410.66811 Month Forward

1.48131.49430.67510.6692Canada (Dollar)

0.64610.64751.54771.54456 Months Forward

0.64230.64371.55681.55353 Months Forward

0.63980.64121.56291.55961 Month Forward

0.63860.63991.5661.5627Britain (Pound)

3.47343.40250.28790.2939Brazil (Real)


3.03773.02210.32920.3309Argentina (Peso)

Currency per

USD Thursday

Currency per

USD Friday

USD equiv

Thursday

USD equiv

FridayCountry


11/31

The Bid-Ask Spread

The bid price is the price a dealer iswilling to pay you for something.

The ask price is the amount thedealer wants you to pay for thething.

The bid-ask spread is the differencebetween the bid and ask prices.


12/31

Spot FX trading

In the interbank market, thestandard size trade is about U.S. $10million.

A bank trading room is a noisy,active place.

The stakes are high.

The long term is about 10 minutes.


13/31

Cross Rates

Suppose that S($/) = .50

i.e. $1 = 2

and that S(/) = 50 i.e. 1 = 50

What must the $/ cross rate be?$ $

since ,

$1 1 $1($ / ) .01 or $1 100

2 50 100

S


14/31

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 theimplied cross

rates to see if an

arbitrage exists.


15/31


$Credit

Lyonnais

S(/$)=1.50

Credit Agricole

S(/)=85

Barclays

S(/$)=120

80

1

120

1$

1$

50.1

The implied S(/) cross

rate is S(/) = 80

Credit Agricole has

posted a quote of

S(/)=85 so there is anarbitrage opportunity.

So, how can we make money?

Buy the @ 80; sell @ 85. Then trade yen for dollars.


16/31


$Credit

Lyonnais

S(/$)=1.50

Credit Agricole

S(/)=85

Barclays

S(/$)=120

As easy as 1 23:

1. Sell our $ for ,

2. Sell our for ,

3. Sell those for $.

1

2

3

$


17/31


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(/$) = 120

receive $106,250

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


18/31

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 importantdeterminant of spot exchange rates.


19/31

The Forward Market

A forward contract is an agreementto buy or sell an asset in the futureat prices agreed upon today.

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


20/31

Forward Rate Quotations

The forward market for FOREX involvesagreements to buy and sell foreigncurrencies in the future at prices agreed

upon today. Bank quotes for 1, 3, 6, 9, and 12 month

maturities are readily available for forwardcontracts.

Longer-term swaps are available.


21/31

Forward Rate Quotations

Consider the example from above:

for British pound, the spot rate is

$1.5627 = 1.00While the 180-day forward rate is

$1.5445 = 1.00

Whats up with that?


22/31


Clearly the

market

participantsexpect that

the pound

will be

worth lessin dollars in

six months.1.49751.51060.66780.6626 Months Forward

1.48881.5020.67170.66583 Months Forward

1.48351.49680.67410.66811 Month Forward

1.48131.49430.67510.6692Canada (Dollar)

0.64610.64751.54771.54456 Months Forward

0.64230.64371.55681.55353 Months Forward

0.63980.64121.56291.55961 Month Forward

0.63860.63991.5661.5627Britain (Pound)

3.47343.40250.28790.2939Brazil (Real)


3.03773.02210.32920.3309Argentina (Peso)

Currency per

USD Thursday

Currency per

USD Friday

USD equiv

Thursday

USD equiv

FridayCountry


23/31

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.


24/31

Payoff Profiles

0S180($/)

F180($/) = .009524

Short positionloss

profitIf you agree to sell anythingin the

future at a set price and the spot

price later falls then you gain.

If you agree to sell anythingin the

future at a set price and the spot

price later rises then you lose.


25/31

Payoff Profiles

loss

0 S180(/$)

F180(/$) = 105

-F180(/$)

profit

Whether thepayoff profile

slopes up or down

depends upon

whether you usethe direct or

indirect quote:

F180(/$) = 105 or

F180($/) = .009524.

short position


26/31

Payoff Profiles

loss

0S180(/$)

F180(/$) = 105

-F180(/$)

When the short entered into this forward contract,

he agreed tosell in 180 days atF180(/$) = 105

profitshort position


27/31

Payoff Profiles

loss

0S180(/$)

F180(/$) = 105

-F180(/$)

120

If, in 180 days, S180(/$) = 120, the short will

make a profit by buying at S180(/$) = 120 and

delivering atF180(/$) = 105.

15

profitshort position


28/31

Payoff Profiles

loss

0S180(/$)

F180(/$) = 105

Long position-F180(/$)

F180(/$)short position

profitSince this is a zero-sum game,

the long position payoff is the

opposite of the short.


29/31

Payoff Profiles

loss

0S180(/$)

F180(/$) = 105

Long position

-F180(/$)

profitThe long in this forward contract agreed to BUY

in 180 days atF180(/$) = 105

If, in 180 days, S180(/$) = 120, the long will

lose by having to buy at S180(/$) = 120and delivering atF180(/$) = 105.

120

15


30/31

SWAPS

A swap is an agreement to provide acounterparty with something hewants in exchange for something

that you want. Swap transactions account for

approximately 56 percent ofinterbank FX trading, whereasoutright trades are 11 percent.


31/31

Forward Premium

Its just the interest rate differentialimplied by forward premium or discount.

For example, suppose the is

appreciating from S($/) = .5235 toF180($/) = .5307

The forward premium is given by:

180

180, $

($ / ) ($ / ) 360 .5307 .5235.01375

($ / ) 180 .5235v

F Sf

S

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