International Finance

Foreign Exchange Market (Part 2)

Bid-Ask Cross Rate Calculations

Example 1: Calculating the Direct Quote for

the British Pound in Zurich

: US$ 1.4419-36
SFr
: US$ 0.6250-67
What is the direct quote for the pound in Zurich?
What is the direct quote for the Swiss franc in
London?

Bid-Ask Cross Rate Calculations

Example 2: Calculating $/ and /$ Bid-Ask

Cross Rates
: 1.5473-80
$ : 1.0164-67
What is the $/ bid-ask cross exchange rates?
What is the /$ bid-ask cross exchange rates?

Bid-Ask Cross Rate Calculations

Example 3: Direct Quote for the pound in

Zurich
: 1.5473-80/US$
SFr : SFr 1.5957-00/US$
What is the SFr/ bid-ask cross exchange rates?
What is the /SFr bid-ask cross exchange rates?

Forex Arbitrage
Arbitrage Defined:

Simultaneously buying and selling currencies

in two different forex markets to profit from the
misalignment of currency values
Types:

Bilateral/Spatial Arbitrage
Triangular Arbitrage (using midpoints)
Triangular Arbitrage (using bid-ask spreads)

Forex Forward Market

Forward Market

Forward contract: contract between a bank

and its client calling for delivery, at a fixed
future date, a specified amount of one
currency against another, with the exchange
rate fixed at the time the contract is entered
into

Forward Market
Forward Market

Forward rates can be expressed as:

Outright rate actual price quoted to bank clients

Swap rate forward rate quoted as discount or
premium on spot rate

Forward Premium/Discount

Forex Swap Rates

Swap rates in the forex market do not carry positive

or negative signs. A way to determine whether a

forward rate is at a premium or discount is to use the
following rule:

When the forward bid in points is smaller than the ask rate in
points, the forward rate (i.e. foreign currency) is at a
premium and the points should be added to the spot rate to
compute the outright quote. Conversely, if the bid in points
exceeds the ask in points, the forward rate is at a discount
and the points must be subtracted from the spot price.

Forex Swap Rates

Spot Rate
30-day
: $2.0015-30
19-17
SFr:$0.6963-68
4-6

90-day
26-22
9-14

180-day
42-35
25-38

In this example, the pound is at a forward discount vis--vis the

dollar while the Swiss francs is at a premium

Forex Risk
Exchange Risk

Spreads in the forward market are a function

of both the breadth of the market (volume of
transactions) in a given currency and the risk
associated with forward contracts. Risk, in
turn, are based on the variability of future spot
rates. Such uncertainty will get reflected in the
forward market. Uncertainty will increase with
lengthening maturities of forwards contracts.