1. Copyright © 2003 Pearson Education, Inc.Slide 6-1 Geographic Extent of the Market Measuring FOREX Market Activity: Average Electronic Conversations Per Hour Greenwich Mean Time Tokyo opens Asia closing 10 AM In Tokyo Afternoon in America London closing 6 pm In NY Americas open Europe opening Lunch In Tokyo

2. Copyright © 2003 Pearson Education, Inc.Slide 6-2 Size of the FOREX Market  The Bank for International Settlements (BIS) estimates that daily global net turnover in traditional FOREX market activity to be US$1,210 billion in April 2001

3. Copyright © 2003 Pearson Education, Inc.Slide 6-3 Size of the FOREX Market Global Foreign Exchange Market Turnover (daily averages in April, billions of US dollars) Source: Bank for International Settlements, “Central Bank Survey of Foreign Exchange and Derivatives Market Activity in April 2001,” October 2001, www.bis.org.

4. Copyright © 2003 Pearson Education, Inc.Slide 6-4 Size of the FOREX Market  Two of the three categories fell between 1998 and 2001 with spot market daily turnover falling the most, from $568 billion in 1998 to $387 billion in 2001  Forward transactions increased slightly from $128 billion in 1998 to $131 billion in 2001  Swaps fell to $656 billion in 2001 from $734 billion in 1998 BIS attributes the introduction of the Euro, the growing share of electronic broking in the spot market and consolidation in banking as explanations for the reduction

5. Copyright © 2003 Pearson Education, Inc.Slide 6-5 Size of the FOREX Market Geographic Distribution of Foreign Exchange Market Turnover (daily averages in April, billions of US dollars) Source: Bank for International Settlements, “Central Bank Survey of Foreign Exchange and Derivatives Market Activity in April 2001,” October 2001, www.bis.org.

6. Copyright © 2003 Pearson Education, Inc.Slide 6-6 Size of the FOREX Market Currency Distribution of Global Foreign Exchange Market Turnover (percentage shares of average daily turnover in April) Source: Bank for International Settlements, “Central Bank Survey of Foreign Exchange and Derivatives Market Activity in April 2001,” October 2001, www.bis.org.

7. Copyright © 2003 Pearson Education, Inc.Slide 6-7 Foreign Exchange Rates & Quotations  Expressing Forward Quotations on a Points Basis The previously mentioned rates for yen were considered outright quotes Forward quotes are different and typically quoted in terms of points A point is the last digit of a quotation, with convention dictating the number of digits to the right of the decimal –Hence a point is equal to 0.0001 of most currencies

8. Copyright © 2003 Pearson Education, Inc.Slide 6-8 Foreign Exchange Rates & Quotations  Expressing Forward Quotations on a Points Basis The yen is quoted only to two decimal points A forward quotation is not a foreign exchange rate, rather the difference between the spot and forward rates Example: BidAsk Outright spot: ¥118.27 ¥118.37 Outright forward: ¥116.84 ¥116.97 Plus points (3 months) -1.43 -1.40

9. Copyright © 2003 Pearson Education, Inc.Slide 6-9 Foreign Exchange Rates & Quotations  Forward Quotations in Percentage Terms Forward quotations may also be expressed as the percent-per-annum deviation from the spot rate –This is similar to the forward discount or premium calculated earlier The important thing to remember is which currency is being used as the home or base currency –For indirect quotes (i.e. quote expressed in foreign currency terms), the formula is

10. Copyright © 2003 Pearson Education, Inc.Slide 6-10 Foreign Exchange Rates & Quotations  Forward Quotations in Percentage Terms –For direct quotes (i.e. quote expressed in home currency terms), the formula is

11. Copyright © 2003 Pearson Education, Inc.Slide 6-11 Foreign Exchange Rates & Quotations  Forward Quotations in Percentage Terms Example: Indirect quote Example: Direct quote ¥

12. Copyright © 2003 Pearson Education, Inc.Slide 6-12 Foreign Exchange Rates & Quotations  Cross Rates Many currencies pairs are inactively traded, so their exchange rate is determined through their relationship to a widely traded third currency Example: A Mexican importer needs Japanese yen to pay for purchases in Tokyo. Both the Mexican peso (P s ) and Japanese yen (¥) are quoted in US dollars –Assume the following quotes: Japanese yen¥121.13/$ Mexican pesoP s 9.190/$

13. Copyright © 2003 Pearson Education, Inc.Slide 6-13 Foreign Exchange Rates & Quotations  Cross Rates The Mexican importer can buy one US dollar for P s 9.190 and with that dollar buy ¥121.13; the cross rate would be ¥ ¥

14. Copyright © 2003 Pearson Education, Inc.Slide 6-14 Foreign Exchange Rates & Quotations  Intermarket Arbitrage Cross rates can be used to check on opportunities for intermarket arbitrage Example: Assume the following exchange rates are quoted Citibank $0.9045/€ Barclays Bank$1.4443/£ Dresdner Bank€1.6200/£

15. Copyright © 2003 Pearson Education, Inc.Slide 6-15 Foreign Exchange Rates & Quotations  Intermarket Arbitrage The cross rate between Citibank and Barclays is –This cross rate is not the same as Dresdner’s rate quote of €1.5800/£, so an opportunity exists for risk-less profit £ £ € €

16. Copyright © 2003 Pearson Education, Inc.Slide 6-16 Foreign Exchange Rates & Quotations Citibank Dresdner BankBarclays Bank End with $1,014,533 Start with $1,000,000 (3)Sell £692,377 to Dresdner Bank at €1.6200/£ (4) Receive €1,121,651 (1)Sell $1,000,000 to Barclays Bank at $1.4443/£ (2) Receive £692,377(5)Sell €1,121,651 to Citibank at $0.9045/€ (6) Receive $1,014,533