Functions Of Foreign Exchange Markets – The foreign exchange market refers to the market where different currencies are exchanged (buying and selling). So friends, in today’s article we will know about the working of the foreign exchange market. So, let’s talk.
Definition of Foreign Exchange Market – The foreign exchange market is a market where foreign currencies or foreign exchange are bought and sold against each other.
Functions Of Foreign Exchange Markets
• Purchasing Power Exchange – The primary function of the foreign exchange market is to transfer purchasing power from one country to another or from one currency to another. Therefore, it helps the movements of the investment world.
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• Credit facilities – International trade depends on increasing credit facilities. Another important function of the foreign exchange market is to provide credit to national and international traders to promote international trade.
• Provision of hedging facilities – Hedging refers to covering foreign exchange risks. The foreign exchange market is a mechanism for traders and importers to hedge themselves against losses arising from price fluctuations.
• Credit facilities – The foreign exchange market provides credit facilities for the export and import of goods and services to different countries around the world.
• Hedging function – The foreign exchange market provides protection against the risk associated with fluctuations in foreign exchange rates. This is the most important function of the foreign exchange market.
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• Exchange Transaction – The foreign exchange market refers to the transfer of purchasing power in terms of foreign exchange rates between different countries in the world.
• Exchange Market – Foreign exchange market is where individuals and businesses needing foreign currency can buy it, and those who buy foreign currency can buy it.
• Forward Market – The future exchange rate is determined in the forward exchange market. The main clients in the foreign exchange market are commercial banks, central banks and banks, brokers and clearing houses.
So friends, this is the purpose of the forex market. Hope you get all the information about it and you will like this article.
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Hello, This is Yusub Ali Khan, Author and Owner. I am a content writer, blogger and professional web-developer. I like to share my knowledge with people. 3 Foreign Exchange Market The foreign exchange market provides: -a physical and organizational structure for the exchange of money from one country to another; -is the fixed rate of exchange between currencies, and -is the point at which foreign exchange transactions are physically completed. The foreign currency is the currency of the foreign country; That is, foreign currency bank balances, bank accounts, checks and drafts. A foreign exchange transaction is an agreement between a buyer and a seller to exchange a specified amount of one currency for another currency on a specified date. 3
4 FUNCTIONS OF THE FOREIGN EXCHANGE MARKET The foreign exchange market is a process that allows participants to: -exchange purchasing power between countries; -Obtaining or issuing credit for international commercial transactions, and reducing exposure to the risks of exchange rate changes (eg, hedging and forward contracts). More on that later. 4
6 Geography The FX market is spread all over the world, prices vary and currencies are traded anywhere at all hours of every working day – major currency trading centers open and close throughout the day. 6 Measuring foreign exchange market activity: average hourly energy changes
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14 Market Participants There are two parts to the foreign exchange market: -the interbank or wholesale market ($1MM US or equivalent transaction size), and -the dealer or retail market (individual, less money). There are four broad categories of participants operating within these two levels; -Financial and non-banking foreign currency dealers, -individuals and institutions engaged in commercial or investment activities, -investigators and brokers and -banks and warehouses. 14
15 Market Players: Banks and Non-bank Foreign Exchange Dealers Banks and some non-bank foreign exchange dealers operate in interbank and consumer markets. Profits can be made by buying foreign currency at the “bid” price and reselling it at a higher “bid” price or higher “ask” price. Traders in the foreign exchange department of major international banks act as “market makers”. These agents are always ready to buy and sell currencies that are unique to them and maintain an “inventory” position in those currencies. Currency trading is a source of income for large banks, paying an average of 10%-20% of their annual income. 15
16 Market Players: Individuals and Companies Individuals (such as tourists) and firms (such as importers, traders and MNEs) conduct trade and investment in the exchange market. foreign currency Their use of the foreign exchange market is legitimate but unrelated to their commercial or investment purpose. Some participants use the market to “hedge” foreign exchange risk. 16
17 A simple currency bond example: a forward contract MNCs can buy (buy) forward cash for foreign currency payments (borrow). 1. Expect to receive 500,000 pesos from a foreigner. A contract to buy 500,000 pesos @ $.09/peso on June 17th. April 4 2. Earn 500,000 pesos as expected. June 17 3. Buy peso at closing price. 17
Functions Of Foreign Exchange Market
18 Market Followers: Advisors and Intermediaries Advisors and Intermediaries seek to profit from trading in the immediate market. They work on their own initiative without any need or obligation to serve customers or to organize the market itself. -It is not necessary to maintain the lists of foreign currencies. -Drink long or short. While traders look for the bid/ask spread, speculators look for overall profit from exchange rate changes and have arbitrageurs to profit from exchange rate differences in different markets. . 18
19 In financial arbitrage, an arbitrage opportunity is a risk-free product. Examples of arbitrage: –Agricultural commodities traded in two different jurisdictions (eg, OJ comes from CA and FL) –Dual-listing of companies on two different exchanges –Triangle arbitrage and foreign currencies –to name a few… However, arbitrage like this is sometimes risky. 19
20 Arbitrage Triangle Suppose the exchange rates in two markets are as follows: –£5 = $10 = ¥1,000 in London –£6 = $12 = ¥1,000 in Tokyo Arbitrage Profit –Exchange ¥1000 to $12 in Tokyo the price of $12 in London ¥1 , converts to 200 (=12/10*1, 000), and determines a profit of ¥200. 20
21 Market Makers: Central Banks and Commodities Central banks and commodities use the market to buy or spend their country’s foreign reserves and influence the price at which they trade. their own money. They may act to support the value of their own currencies through policies implemented at the national level or through commitments made through membership in common agreements such as the Monetary System. European currency. The purpose is not to be profitable, but to influence the value of the foreign exchange of their currency in order to benefit the interests of their citizens. As investors, central banks and commodities have a different purpose than other market participants. 21
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22 Central Bank Interventions The policy issue is about the art of intervening in the foreign exchange market to influence the exchange rate in a favorable direction. For example, if a country’s currency is overvalued due to a shock, it may want to devalue the currency to reduce the volatility. Some developing economies have adopted policies to limit their currencies in order to increase exports. In India, when the Reserve Bank of India (RBI) wants to devalue the rupee, it usually does so by using the rupee to buy foreign currency from the market. -Foreign currency strengthens and rupee weakens. 22
26 Forward Exchange Forward Exchange – A single transaction involving the exchange of two currencies at an agreed rate on the contract date for value or delivery (currency settlement) within two business days. For North American currencies any day – the settlement date is called the value date. Example: On Tuesday, September 5, 2006, MegaSouth Bank bought USD 10,000,000 in Japanese Yen at a spot price of JPY 110.32 / USD. No money changed hands on September 5, 2006. -On Thursday, September 7, 2006, MegaSouth paid USD 10,000,000 (transfer in the US) and MegaSouth received JPY 1,103,200,000 at its Tokyo branch (transfer in Japan). 26
27 Forward Contracts All forward transactions (also called forwards) require the delivery of a specified amount of one currency in another currency at a future time. The exchange rate is determined at the time of the contract, but payment and delivery are not required until maturity. Forward exchange fees are common
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