Chap009 - Chapter 09 - The Foreign Exchange Market The...

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Chapter 09 - The Foreign Exchange Market The Foreign Exchange Market INTRODUCTION A) This chapter has three main objectives. The first objective is to explain how the foreign exchange market works. The second objective is to examine the forces that determine exchange rates and to discuss the degree to which it is possible to predict exchange rate movements. The third objective is to map the implications for international business of exchange rate movements and the foreign exchange market. B) The foreign exchange market is a market for converting the currency of one country into that of another country. C) The exchange rate is the rate at which one currency is converted into another. D) Dealing in multiple currencies is a requirement of doing business internationally. Therefore, it is important to understand the risks involved and how varying exchange rates affect the attractiveness of different investments and deals over time. Firms can use the foreign exchange market to hedge the risk of adverse exchange rate changes, but doing so can prevent firms from benefiting from favorable changes. THE FUNCTIONS OF THE FOREIGN EXCHANGE MARKET A) The foreign exchange market serves two main functions. The first is to convert the currency of one country into the currency of another. The second is to provide some insurance against foreign exchange risk (the adverse consequences of unpredictable changes in exchange rates). Currency Conversion B) International businesses have four main uses of foreign exchange markets. First, the payments a company receives for its exports, the income it receives from foreign investments, or the income it receives from licensing agreements with foreign firms may be in foreign currencies. Second, international businesses use foreign exchange markets when they must pay a foreign company for its products or services in its country’s currency. Third, international businesses use foreign exchange markets when they have spare cash that they wish to invest for short terms in money markets. Finally, currency speculation is another use of foreign exchange markets. Currency speculation typically involves the short-term movement of funds from one currency to another in the hopes of profiting from shifts in exchange rates. Insuring Against Foreign Exchange Risk C) A second function of the foreign exchange market is to provide insurance to protect against the possible adverse consequences of unpredictable changes in exchange rates, or foreign exchange risk . Spot Exchange Rates 9-1
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Chapter 09 - The Foreign Exchange Market D) The spot exchange rate is the rate at which a foreign exchange dealer converts one currency into another currency on a particular day. Spot rates change continually, and are determined by the interaction between the demand and supply of that currency relative to the demand and supply of other currencies. Forward Exchange Rates
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This note was uploaded on 04/24/2010 for the course MARK 3336 taught by Professor Cox during the Spring '10 term at University of Houston - Downtown.

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Chap009 - Chapter 09 - The Foreign Exchange Market The...

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