Foreign exchange markets

Dr.Guru. Raghavan

Some basic concepts

Why we need foreign exchange? What foreign exchange means? Role of exchange rates Payment and settlement systems

Structure of the foreign exchange market

It is the world’s largest market It is a twenty four hour market The market is made up of an international network of

dealers The market’s most widely traded currency is the

Dollar It is an over the counter market with an exchange

traded segment

The main participants

Foreign exchange dealers Financial and non financial customers Central Banks

Classification of exchange rate arrangements Brokers

In the over the counter market Voice brokers Automated order making or electronic broking

system In the exchange traded market

Main instruments – OTC market

Spot There is a buying and a selling price How spot rates quoted: Direct and Indirect quotes European and American Terms There is a base currency and a terms currency Bids and offers are for the base currency Quotes are in basis points Cross rate trading Deriving cross rates from dollar exchange rates

Main instruments – OTC market

Outright forwards Relationship of forward to spot – covered interest

rate parity Role of the offshore deposit market for euro

dollars and other currencies How forward rates are quoted by traders Calculating forward premium / discount points Non deliverable forwards

Main instruments – OTC market

FX swaps Why FX swaps are used Pricing FX swap Some uses of FX swaps Calculating FX swap points

Currency swaps Purpose of currency swaps

Main instruments – OTC market

Over the counter foreign currency options The pricing of currency options Delta hedging Put-Call parity How currency options are traded Options combinations and strategies Foreign exchange options galore

Main instruments – Exchange traded market

Exchange traded futures Development of foreign currency futures Quotes for foreign currency futures

Exchange traded currency options Linkages

Linkages between main foreign exchange instruments in both OTC and exchange traded markets

How dealers conduct foreign exchange operations?

Trading room setup The different kinds of trading functions of a dealer

institution Trading among major dealers – dealing directly and

through brokers mechanics of direct dealing mechanics of trading through brokers : voice

brokers and electronic brokering systems Operations of a foreign exchange department Back office payments and settlements

Managing risk in foreign exchange trading

Market risk Measuring and managing market risk Value at risk

Credit risk Settlement risk – a form of credit risk Arrangements for dealing with settlement risk Sovereign risk – a form of credit risk

Other risks

Evolution of the international monetary system

The Gold standard 1880-1914 The inter war period 1919-1939 The Bretton Woods Par value period 1946-1971 The floating rate period 1971 to present

Determination of exchange rates

Some approaches to exchange rate determination The purchasing power parity approach The balance of payments and the internal-external

balance approach The monetary approach The portfolio balance approach Measuring the dollars equilibrium value: a look at

some alternatives How good are the various approaches?

Determination of exchange rates

Foreign exchange fore casting in practice Assessing factors that may influence exchange

rates Official actions to influence exchange rates

What lies ahead?

Global financial trends Future of Euro Increased trading in currencies of emerging

market countries Shifting structure of the foreign exchange markets

Consolidation and concentration Automated order matching system

New instruments, New systems

Thank you