Lecture2_part2 - Foreign Exchange Markets Lecture 2 Part 2...

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Foreign Exchange Markets Lecture 2 Part 2
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Outline Function and Structure of the FX Market FX Market Participants Correspondent Banking Relationships The Spot Market Spot Rate Quotations The Bid-Ask Spread Spot FX Trading Cross Exchange Rate Quotations Triangular Arbitrage Spot Foreign Exchange Market Microstructure 2
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Chapter Outline Continued The Forward Market Forward Rate Quotations Long and Short Forward Position Forward Premium 3
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The Foreign Exchange Market Why do we need foreign currency? Import/Export demand and supply Foreign direct investment (physical capital) Portfolio investments (financial securities) “Speculation” The FX market establishes the price of each (domestic) currency in terms of (other) foreign currencies FX primyary function is to facilitate international trade and investment. The FX market encompasses: Conversion of purchasing power from one currency to another; bank deposits of foreign currency; credit denominated in foreign currency; foreign trade financing; trading in foreign currency options & futures, and currency swaps No central market place Worldwide linkage of bank currency traders, non-bank dealers, and FX brokers – like an international OTC market 4
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The Foreign Exchange Market Largest financial market in the world Daily trading is estimated to be US$ 5.1 trillion* (BIS,2016) Trading occurs 24 hours a day The major dealing centers today are: London , followed by New York, Tokyo, Zurich, Frankfurt, Hong Kong and Singapore, Paris and Sydney Over 85% of all FX transactions involve 7 major currencies US Dollar, Japanese Yen, Euro (EUR), Swiss Frank, British Pound, Canadian Dollar, and Australian Dollar Very small transaction cost High liquidity and volumes High volatility of exchange rates 5
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2016: $5100 billions
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The US dollar is the major currency All currencies are quoted against the US dollar with some regional exceptions as the yen in Asia and now the euro in Europe
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