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Foreign Exchange Markets and Forex

Arithmetic

Dr Alok Pandey

India Key Economic Indicators


2012 vs. 2001
2012
Population

2001
1.22 bn

1.03 bn

US $ 1,800 bn

US $ 492 bn

US $ 1,480

US $ 460

Exports - Merchandise

US $ 305 bn

US $ 44.5bn

Imports - Merchandise

US $ 489 bn

US $ 50.5 bn

4.2%

1.5%

Export - Services

US $ 142 bn

US $ 16.3bn

Import Services

US $ 78 bn

US $ 14.6bn

Foreign Currency Reserves

US $ 295bn

US $ 39.5 bn

External Debt

US $ 376 bn

US$ 99.6 bn

54.5

47.7

GDP (at current prices)


Per capita income (nominal)

Share in world trade (exports + imports)

Average exchange rate / US$

Dr Alok Pandey

Select Trade Statistics, Emerging Markets,


NIAEs & India
Share of emerging markets in global exports
Share including NIAEs

2011
41.0%
50.5%

2000
25.4%

Region-wise share of India's exports


2000-01 2005-06 2011-12
Europe
Africa
America
Asia
CIS & Baltics
Dr Alok Pandey

25.9
5.3
24.7
37.4
2.3

24.2
6.8
20.7
46.9
1.2

19.0
8.1
16.4
50.0
1.0

2012-12
(Apr-Nov)
18.7
9.6
19.5
50.4
1.3

Countries with highest forex Reserves ($


million)
1

People's Republic
4,055,812
of China

Jun 2014

Japan

1,264,405

Sep 2014

Saudi Arabia

745,851

Aug 2014

Switzerland

545,948

Aug 2014[

Russia

454,240

Sep 2014

Republic of China
428,213
(Taiwan)

Aug 2014

Brazil

379,157

Aug 2014

Republic of
Korea

367,534

Aug 2014

Hong Kong

331,323

Aug 2014

India

314,182

Sep 2014

10

Singapore

273,293

Aug 2014

Dr Alok Pandey

Understanding Foreign Exchange Markets


&Foreign Exchange Arithmetic
Session Objectives:
Understanding foreign exchange markets
Review of factors affecting exchange rates
Introduction to exchange rate arithmetic and IRP
Overview of hedging with forward contracts
Understanding foreign currency trading

Dr Alok Pandey

The Foreign Exchange Market

The Foreign Exchange Market provides:


The physical and institutional structure through which the money of
one country is exchanged for that of another country
The determination rate of exchange between currencies
Is where foreign exchange transactions are physically completed

Dr Alok Pandey

The Foreign Exchange Market

Foreign exchange means the money of a foreign country; that is,


foreign currency bank balances, banknotes, checks and drafts.

A foreign exchange transaction is an agreement between a buyer


and a seller that a fixed amount of one currency will be delivered
for some other currency at a specified date.

Dr Alok Pandey

Geography

The foreign exchange market spans the globe, with prices moving
and currencies trading somewhere every hour of every business
day.

As the next exhibit will illustrate, the volume of currency


transactions ebbs and flows across the globe as the major currency
trading centers open and close throughout the day.

Dr Alok Pandey

Measuring Foreign Exchange Market Activity:


Average Electronic Conversations Per Hour
25,000

20,000

15,000

10,000

5,000

Greenwich Mean
Time

0
1

10 AM
Lunch Europe
In Tokyo In Tokyo opening

10 11 12 13 14 15 16 17 18 19 20 21 22 23 24

Asia
closing

Americas London
open
closing

Afternoon
in America

6 pm
In NY

Tokyo
opens

Source: Federal Reserve Bank of New York, The Foreign Exchange Market in the United States,, www.ny.frb.org.

Dr Alok Pandey

Foreign exchange (fx) market

Market
Spot market
trade in cash today with delivery in two business days

Forward market
trade at a pre-specified price and on a pre-specified future date

Volume
volume in April 2010 in global foreign exchange markets is estimated at
$3.98 trillion per day
about 75% in the interbank market
Average transaction is about USD 4 million

Operational efficiency
small retail transactions can be expensive
large interbank transactions have very low costs

Dr Alok Pandey

10

Foreign Exchange Market

The foreign exchange market is the market in which


currencies are bought and sold against each other.

The interbank foreign exchange market is an over-thecounter (OTC) market.


The participants in the wholesale market are commercial
banks, investment institutions, corporations and central
banks. Currency brokers act as middlemen between dealers

A small number of currencies account for bulk of turnover:


USD, GBP, EUR, CHF, CAD, JPY, AUD

Dr Alok Pandey

11

Foreign Exchange Market


Round-the-clock

market

Three major time zones

Positions get passed from one time zone to another


Major banks operate 24-hour desks

Overnight orders can be placed

Dr Alok Pandey

12

Foreign Exchange Market


Among the participants, primary price makers or
professional dealers make a two-way market to each other
and to their clients
Foreign currency brokers act as middlemen between two
market makers. Their main function is to provide
information to market-making banks
Corporations usually are price takers. However, some nonbank, non-financial companies do act as market makers.
Large money centre banks deal in a large number of
currencies. Smaller banks have a restricted range.

Dr Alok Pandey

13

World Countries

Chicago
9:30p.m
Los Angeles
7:30p.m

N.York
10:30p.m

London Zurich
3:30a.m
4:30a.m
Dubai
7:30a.m

Mumbai
9:00a.m

Tokyo
12:30p.m
Hong kong
11:30a.m

Singapore
11:30a.m

Sydney
1:30p.m
4:30a.m

Dr Alok Pandey

6:30a.m

7:30a.m 12:30p.m

1:30p.m

6:00p.m

8:30p.m

9:30p.m

14

Foreign Exchange Market

Other features
More than 90% of the turnover is speculative
40% of volume is spot
60% of volume is forward outright and swaps
Market lot $ 3 mn to $ 5 mn
US $ predominant currency of trade
Reuters, Bridge, & Bloomberg - big facilitators
Electronic market
OTC market

Dr Alok Pandey

15

Foreign Exchange Transactions (worldwide)


(Percent)
13
40

40
17

Spot
Dr Alok Pandey

Other

Swaps

Forward
16

The Hierarchy of International Financial Centers


Amsterdam
Brussels
London

Frankfurt
Zurich

Toronto
San
Francisco

Hamburg
Dusseldorf

Chicago

New
York

Paris
Basel Rome
Madrid Vienna

Mexico
City

Tokyo
Hong Kong

Bombay
Singapore
Sydney
Rio de Janiero
So Paulo

Melbourne

Note: Size of dots (squares) indicates cities relative importance


Dr Alok Pandey

17

Share of Global Foreign Exchange Trading


Accounted for by London, New York, and Tokyo
London
31%

New York
19%

Dr Alok Pandey

Other
38%

Tokyo
12%

18

Major foreign exchange trading centers


(Average daily volume during April of 1999, 2002, 2005, and 2008)
700

1999

600

2002

2005

2008

500

400

300

200

100
0

London

New York

Tokyo

Source: Bank for International Settlements triennial survey of central banks.

Dr Alok Pandey

19

Currency Codes

Currency Codes : All currencies have a 3-letter code used by SWIFT


for all interbank transactions.
JPY : Japanese Yen
GBP : British Pound
CHF : Swiss Franc
DKK : Danish Kroner
USD : US Dollar
AUD : Australian Dollar
CAD : Canadian Dollar
INR : Indian Rupee
EUR : Euro
SAR : Saudi Riyal

Dr Alok Pandey

20

Members of EMU (2014)


Austria
Belgium
Cyprus
Estonia
Finland
France
Germany
Greece
Ireland
Dr Alok Pandey

Italy
Latvia (2014)
Luxembourg
Malta
The Netherlands
Portugal
Slovenia
Slovakia
Spain
21

The following members of the European


Union do not use the euro
Bulgaria,

Hungary

Czech

Poland,

Republic,
Denmark,
Croatia,
Lithuania (joining on
Jan. 1, 2015)

Dr Alok Pandey

Romania,
Sweden
United

Kingdom.

22

Major Currency Cross Rates

Dr Alok Pandey

23

Indian Forex Market


Daily

volume approximately $ 60 bn (May 2013)


Growth in recent years has been tremendous. In May 2000,
the onshore market did only $2.7 billion a day. That is,
we've got 20x growth (approx.) over 12 years.
Trading in the rupee is composed of the following elements
of the market:

Exchange Traded

OTC

Onshore

Options, Futures

Spot, Forward,
Swap, Options

Offshore

Futures

Forwards, Swap,
Options

Dr Alok Pandey

24

Turnover Across Segments


Location

Billion (USD)

OTC Spot (onshore)

19.82

OTC Forwards (onshore)

4.40

OTC Swaps (onshore)

11.34

Exchange Futures
(onshore)

7.02

Exchange Options
(onshore)

1.45

Exchange Futures
(offshore)

1.17 [a]

OTC (offshore)

20.03 [b]

Total

65.23

Source:- RBI Weekly Statistical Supplement, NSE, USE, MCX-SX, DGCX, and BIS Survey (Tables D.1.1 and D.1.2)
[a] DGCX data as on June 6, 2012 for May 2012.
[b] This is the April 2010 BIS survey valuation of the offshore market, adjusted for the DGCX daily average value
(estimated from overall value of futures contracts) for April 2010.

Dr Alok Pandey

25

Indian Forex Market


Forward market active upto 1 year
Getting more integrated with money markets
Market dominated by banks
Exchange controls being liberalised
Derivatives market growing fast
Transaction costs high

Dr Alok Pandey

26

Market for the Indian Rupee

he Indian rupee has grown rapidly to becoming the sixteenth most


traded currency in the world.
From less than 0.2% of the world forex turnover in 1998, it has grown
rapidly to constitute about 0.9% of the world forex turnover in April
2010.
It is one of the biggest emerging market currencies with the Korean
Won, Russian Ruble, Chinese Renminbi and the Mexican Peso being
its close competitors.
The offshore market today is as big as the onshore market, as is seen by
other EMs.
The rupee did roughly $70 billion a day in May 2012, roughly where
the biggest EM currency (the KRW) was in 2010.

Dr Alok Pandey

27

Market for the Indian Rupee


With

the implementation of the recommendations


of the Sodhani Committee, money and the foreign
exchange markets have been fully integrated.
Against this context, the role of RBI has been to
stabilize rupee price and the monetary policy has
been singularly devoted to exchange rate stability
rather than economic growth on a long-range
perspective.

Dr Alok Pandey

28

Rupee in 2012 among Emerging Markets


Currency

Spot

Forwards

Swaps

Korean Won

Mexican Peso

Russian Ruble

12

Indian Rupee

South African
Rand

Brazilan Real

14

Chinese Renminbi

Turkish Lira

Polish Zloty

10

11

Taiwan Dollar

Dr Alok Pandey

29

Currency Futures in India


August 06, 2008

RBI allowed USD/INR currency


futures trading in India.

August 29, 2008

Trading in USD/INR futures commenced


in NSE exchange for the first time in
India.

October 10, 2008

Trading in USD/INR futures commenced


in MCX-SX exchange.

January 18, 2010

RBI gives approval for introduction of


EUR/INR, JPYINR and GBPINR
Currency Futures.

February 01, 2010

NSE & MCX-SX started trading in


EUR/INR, JPYINR and GBPINR
Currency Futures.

September 20, 2010

USE commences trading in currency


futures with all four pairs.

Dr Alok Pandey

30

Currency Options in India


2004- RBI allows OTC options in India
30-July-2010: RBI allowed trading in USD/INR options
12-October-2010: : SEBI gave approval for NSE & USE
to trade USDINR currency options.
29-October-2010: NSE & USE launched trading in
USD/INR options.

Dr Alok Pandey

31

Factors affecting Exchange Rates


Economic

Factors

Balance of Payments
Economic Growth
Relative Inflation
Interest Rates
Money Supply
Fiscal Policy - Budget Deficits / Surpluses
Resource Discoveries
Capital Movements / Asset Markets
Reserves

Dr Alok Pandey

32

Factors affecting Exchange Rates


Political

Factors
Random Shocks (Gulf War / September 11
attacks)
Sentiment
Speculation
Technical Factors
Exchange Rate Policy
Central Bank Intervention

Dr Alok Pandey

33

Factors affecting the Rupee Exchange Rates

Relative Inflation
Nominal Exchange rates of major trading partners and
competitors
Budget Deficit
Current Account Deficit
Politics
Ratings
Investment outlook for India

Dr Alok Pandey

34

Factors affecting the Rupee Exchange Rates

Capital Flows
FDI/FII/NRI
GDR/ECB
Official Transactions

Reserves
Herd Mentality - Leads & Lags
Random Shocks - Unexpected Events (Pokhran/Kargil)
RBI policy

Dr Alok Pandey

35

Exchange Rate Quotations

Dr Alok Pandey

36

Exchange Rate Quotation


Exchange Quotations :
There are two methods
Exchange rate is expressed as the price per unit of foreign
currency in terms of the home currency is known as the
Home currency quotation or Direct Quotation
Exchange rate is expressed as the price per unit of home
currency in terms of the foreign currency is known as the
Foreign Currency Quotation or Indirect Quotation
Direct Quotation is used in New York and other foreign
exchange markets and Indirect Quotation is used in London
foreign exchange market.

Dr Alok Pandey

37

Principles
Direct

Quotation: Buy Low, Sell High:


The prime motive of any trader is to make profit.
By purchasing the commodity at lower price and
selling it at a higher price a trader earns the profit.
In foreign exchange, the banker buys the foreign
currency at a lesser price and sells it at a higher
price.
Indirect Quotation: Buy High, Sell Low:
A trader for a fixed amount of investment would
acquire more units of the commodity when he
purchases and for the same amount he would part
with lesser units of the commodity when he sells.
Dr Alok Pandey

38

Spot and Forward Transactions

A Bank agrees to buy from B Bank USD 100000. The


actual exchange of currencies i.e. payment of rupees and
receipt of US Dollars, under the contract may take place :
on the same day or
two days later or
some day later, say after a month.

Dr Alok Pandey

39

Interpretation of Quotation
The market quotation for a currency consists of the spot
rate and the forward margin. The outright forward rate has
to be calculated by loading the forward margin into the spot
rate. For example US Dollar is quoted as under in the
inter-bank market on a given day as under :
Spot
1 USD = Rs. 59.1000/1300
Spot/November
0200/0500
Spot/December
1500/1800

Dr Alok Pandey

40

TT Buying Rate

TT Buying Rate (TT stands for Telegraphic


Transfer)
This is the rate applied when the transaction
does not involve any delay in realization of the
foreign exchange by the bank.
In other words, the nostro account of the bank
would already have been credited.
The rate is calculated by deducting from the
inter-bank buying rate the exchange margin as
determined by the Bank.

Dr Alok Pandey

41

Bills Buying Rate


This

is the rate to be applied when a foreign bill is


purchased.
When a bill is purchased, the proceeds will be
realized by the Bank after the bill is presented to
the drawee at the overseas center.
In the case of a usance bill the proceeds will be
realized on the due date of the bill which includes
the transit period and the usance period of the bill.

Dr Alok Pandey

42

Problem
You would like to import machinery from USA worth
USD 100000 to be payable to the overseas supplier on
31st Oct. Your bank website shows following data:
[a] Spot Rate
USD = Rs.63.8500/8600
Forward Premium
September 0.2950/3000
October 0.5400/5450
November 0.7600/7650
[b] exchange margin 0.125%
[c] Last two digits in multiples of nearest 25.
What should be the appropriate rate quoted by the
bank ?
Dr Alok Pandey

43

Solution
This is an example Forward Sale Contract .
Inter Bank Spot Selling Rate Rs. 63.8600
Add Forward Margin
.5450
-------------64.4050
Add Exchange Margin
.0805
--------------Forward Rate
64.4855
Rounded Off to multiple of 25 paise
Rs.64.4850
Amount Payable to the bank
Rs.64,48,500
Dr Alok Pandey

44

Foreign Exchange Arithmetic

Dr Alok Pandey

45

Exchange Rate Quotations (revision)


Variable Unit

Direct Quote
Indirect Quote
Home Currency Foreign Currency

Direct Quote
Buy Low and Sell High
Buy Dollar at 55.70 and Sell Dollar at 55.72

Dr Alok Pandey

46

Purchase and Sale Transactions

Spot Dollar / Rupee : 55.70 55.72

From Bankers point of view


Purchase - Bank acquires foreign currency and parts with home currency
at 55.70
Sale - Bank parts with foreign currency and acquires home currency at
45.72

From Customers point of view


Purchase - Customer acquires foreign currency and parts with home
currency at 55.71
Sale - Customer parts with foreign currency and acquires home currency at
55.72

Dr Alok Pandey

47

Spot Rate Calculations

Currency

Bid

Ask

USD/INR

55.70

55.72

Banks Spot Buying Rate ( USD Exports)


USD 1 = INR 55.70 Margin
Banks Spot Selling Rate ( USD Imports)
USD 1 = INR 55.72 + Margin

Dr Alok Pandey

48

Delivery/ Value Dates

Cash/Ready - Settlement today

Tom

- Settlement on the next working day

Spot

- Settlement on the 2nd working day

Forward

- Settlement any date beyond spot

Dr Alok Pandey

49

Short Rates
Spot USD/INR
Cash / Spot
Cash USD/INR

Value Today
55.70
55.72
0.02
0.03
55.67
55.70
Value TOM

Spot USD/INR

55.70

55.72

TOM / Next
TOM USD/INR

0.01
55.68

0.02
55.71

Dr Alok Pandey

50

Forward Forex Contracts

Contract to sell or buy a currency at a rate agreed


today; for delivery at a pre-determined future date or
time period

Difference between the spot and the forward rate is


called, forward points, swap points, or forward margin

Outright forward rate = spot rate + forward points

Dr Alok Pandey

51

Types of Forward Exchange Contracts


Fixed Term Contracts (Fixed Date Contracts)
Optional Term Contracts (Time Options)

Dr Alok Pandey

52

Fixed Term Contracts

With a Fixed Term Contract the customer specifies the date


on which delivery of the overseas currency is to take place.
An earlier delivery can be arranged but it may involve a
marginal adjustment to the Forward Contract Rate.

Dr Alok Pandey

53

Optional Term Contracts


Optional

Term Contracts can be entered into for a


specific period, and the customer states the period
within which delivery is to be made (normally for
periods not more than one month) eg. a contract
may be entered into for a six month period with the
customer having the option of delivery at anytime
during the last week.

Dr Alok Pandey

54

In

each case there is a firm contract to effect


delivery by both the Bank and the customer.
An optional delivery contract does not give the
customer an option to not deliver the Forward
Exchange Contract.
It is only the period during which delivery may
occur that is optional.

Dr Alok Pandey

55

Fixed Date Forward Calculations


USD/INR
Spot Rate

45.70

45.71

31 Jan

6.00

6.75

28 Feb

15.50

17.00

31 Mar

23.25

24.50

30 Apr

29.25

30.75

USD Exports for 21/02/2010, Spot date 14/01/2010

USD/INR = 45.70 + 0.13 (0.06+0.07) = 45.83


$/Re premium up to 31/01/10 + premium for 21 days in
February =(0.06) + [(0.1550-0.06) * 21/28]= (0.13)

Dr Alok Pandey

56

Option Forwards (Time Options)


Spot rate

45.70

45.71

31 Jan

6.00

6.75

28 Feb

15.50

17.00

31 Mar

23.25

24.50

30 Apr

29.25

30.75

USD Imports for February 2nd half


USD/INR = 45.71 + 0.17 + Banks Margin
Premium charged upto 28/02/10

USD Exports for February 2nd half


USD/INR = 45.70 + 0.11 - Banks Margin
Premium provided upto 15/02/10=0.06+(0.1550-0.06)*15/28=0.11

Dr Alok Pandey

57

Calculation of Annualised Premiums


Spot $/Re
= Rs.45.70
6M - Fwd.Premium = Rs. 0.40
Annualised Premium

: Premium * 100 * 365


Spot
*
n
n = Premium period in days
0.40 * 100 * 365
43.70
*
180
Result : 1.77 %

Dr Alok Pandey

58

FORWARD PREM IUM VS. INT DIFF.


4.00

3.00

2.00

1.00

-1.00

01/05/05

01/04/05

01/03/05

01/02/05

01/01/05

01/12/04

01/11/04

01/10/04

01/09/04

01/08/04

01/07/04

01/06/04

01/05/04

01/04/04

01/03/04

01/02/04

01/01/04

0.00

USD-INR INT
DIFF.
USD-INR
PREMIUM
USD-EURO
INT DIFF.
USD-EURO
DISC.

-2.00

-3.00

-4.00

Dr Alok Pandey

59

The interbank Eurocurrency market


Eurocurrencies are bank deposits or loans residing
outside of the country issuing the currency
Few regulations
No reserve requirements, interest rate regulations or caps,
withholding taxes, deposit insurance requirements, or credit
allocation regulations; less stringent disclosure requirements

Low risk
Relatively short maturities: Maturities of less than 5 years
Low interest rate risk: Interest rates tied to a variable rate
base such as the London Interbank Offer Rate (LIBOR)
Low default risk: Traded between large commercial banks,
investment banks and multinational corporations

Highly competitive
Daily volume of several hundred billion dollars ensures
competitive bid and offer prices
Dr Alok Pandey

60

Spreads in domestic and Eurocurrency


credit markets
Domestic loan rate for
commercial accounts

2%

Domestic deposit rate for


commercial accounts

Dr Alok Pandey

Eurocurrency loan
rate for commercial
accounts

1/2%
Eurocurrency deposit
rate for commercial
accounts

Eurocurrency
loan rate in the
interbank
market

LIBOR

1/8%

1/8%

Eurocurrency
deposit rate in
the interbank
market

LIBID

61

Linkages between credit & currency markets


U.S.
internal
credit market

Japanese
internal
credit market

Dr Alok Pandey

Eurocurrencies
external
credit
markets
external
credit
markets

U.K.
internal
credit market

62

Why U.S. Dollar Interest Rates Differ from Indian


Rupee Interest Rates
Interest
Rate
for $

S$

ie

Interest
Rate
for Rs ie

SRs

DRs
D$
Quantity of $

Quantity of Rs

The curves are further to the right for the dollar


because the U.S. economy is larger.
The curves are higher for the Indian Rupee because of
the higher inflation in India.

Dr Alok Pandey

63

Exposure to foreign exchange risk


(Exporters Perspective) (contract price $10,000)
+$10,000 +Rs650,000 at Rs 65/$

Expected receipt in Rs
at E[S1Rs/$] = Rs 65/$

+$10,000 +Rs 600,000 at Rs60/$

Actual exchange
S1Rs/$ = Rs 60/$
Net loss from
original position

-Rs50,000

DVRs
Risk (or payoff) profile
of underlying exposure

+ slope
-Rs5/$

DSRs/$
-Rs 50000

Dr Alok Pandey

64

Currency hedging with forwards


(contract price $10,000)
Buy Rs650,000 forward
at F1Rs/$ = Rs65/$
Sell $10,000 forward

+Rs650,000

Market exchange of $
for Rs at S1Rs/$ = Rs60/$

+600,000

-$10,000

-$ 10,000
Net gain on forward
Risk profile
of a forward
contract

Dr Alok Pandey

+Rs50,000
DVRs/$
+Rs50000
-Rs 5/$

DSRs/$

65

Net currency exposure


+$10,000

Underlying position
(long dollars)

+Rs650,000

Sell dollars forward


(short dollars and long rupees)

-$10,000
+Rs650,000

Net position
Net exposure

DVRs/$
shortdollars

long dollars

DSRs/$

Dr Alok Pandey

66

Example of foreign exchange trading


Market Participants
Dealers: make a market in foreign currency (quote bid & offer prices)
Traders: trade for their own acct

Rules of the Game - Buy ringgits low and sell ringgits high

One contract Rg1,000,000,000 (Malaysian ringgits)


Trades can be for up to 10 contracts
Record transactions as either a ringgit purchase or sale
Maximum bid-offer spread is 1 b.p.
($0.0001/Rg=.01/Rg = 1 b.p.)
Dealer quotes are good for two minutes

Dr Alok Pandey

67

Arbitrage profit in the Malaysian ringgit market


Bank A: $0.26602/Rg BID and $0.26612/Rg OFFER
Bank B: $0.26617/Rg BID and $0.26627/Rg OFFER
Bank A

Bank B
$0.26627/Rg Offer
$0.26617/Rg Bid

$0.26612/Rg Offer

Sell to B
Buy from A

$0.26602/Rg Bid
1. Buy Rg1 billion from Bank A at $0.26612/Rg offer price
2. Sells Rg1 billion to Bank B at its $0.26617/Rg bid price
Arbitrage Profit = ($0.00005/Rg)(Rg1 billion) = $50,000
with NO NET INVESTMENT and NO RISK.
Dr Alok Pandey

68

Sample foreign exchange ledger


NAME Bank of Cash, Credit, and Industry
1.
2.
3.
4.
5.

Counterparty
Penn Square
Citicorp
Bk of Tokyo
Bk of Tokyo
...

Contracts
BUY 1
BUY 3
SELL 2
SELL 4

Price
0.22004
0.22010
0.22016
0.22020

DATE October 15, 2014

Total $/Rg Cumulative Rg balance


-$0.22004
+1
-$0.66030
+4
+$0.44032
+2
+$0.88080
-2

FINAL CLOSING RATES: $.22018/Rg BID and $0.22023/Rg OFFER


Closing trade BUY 2
Sum of dollar transactions:
Times contract size
Profit (loss)

Dr Alok Pandey

0.22023 -$0.44046

+$0.00032/Rg
x Rg1,000,000,000
+$320,000

69

Opening prices:
$0. 21945/Rg BID & $0.21950/Rg OFFER
News announcements:

The member nations of the G7 have announced that


they are buying dollars in an effort to stabilize the
dollar.
The U.S. Federal Reserve announces that in an effort
to stimulate economic activity it is lowering the
discount rate on overnight loans to commercial
banks.
The U.S. government reports that the U.S. money
supply M1 increased by $1 billion more than
expected in the most recent quarter.

Dr Alok Pandey

70

The Impact of News Events


The member nations of the G7 have announced that they are
buying dollars in an effort to stabilize the dollar.
Value of the U.S. dollar
S$

P$

D$

P$

D$
Q$

Value of the Malaysian ringgit


SRg
PRg
PRg

DRg
DRg
QRg

The Malaysian ringgit depreciates


and the spot rate S$/Rg falls
Dr Alok Pandey

71

The Impact of News Events


The U.S. Federal Reserve announces that in an effort to
stimulate economic activity it is lowering the discount rate on
overnight loans to commercial banks.

This makes it easier for U.S. businesses to borrow and increases economic
activity. If this also increases U.S. inflation, then the value of the U.S.
dollar should fall. This will result in an appreciation of the ringgit against
the dollar.
Increases in the domestic discount rate
usually, but not always, lead to increases
in the value of the domestic currency.

Dr Alok Pandey

72

The Impact of News Events


The government reports that U.S. money supply M1 increased by
$1 billion more than expected in the most recent quarter.
While this would seem to result in a larger supply of dollars and hence a
lower value for the dollar, the increase in the money supply has already
occurred and hence should be reflected in the market price of the dollar.
On the other hand, if the U.S. Federal Reserve is likely to react to this
announcement by increasing the discount rate to slow down the economy,
then the dollar may rise in anticipation of Fed policy.
If the dollar rises against the ringgit,
then the ringgit will fall against the dollar.

Dr Alok Pandey

73

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