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Chapter 7

# Chapter 7 - another and profit opportunities exist 2 Buy...

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1 THE SPOT MARKET B. Method of Quotation 1.For inter-bank dollar trades: a. American terms example: \$1.21/€ b. European terms example: Peso1.713/\$

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2 THE SPOT MARKET 2. For non-bank customers: Direct quote gives the home currency price (always in the numerator) of one unit of foreign currency. EXAMPLE: \$1.81/£ Since this is a direct quote, we know that in the U.S., one pound transacted at \$1.81
3 THE SPOT MARKET C. Transactions Costs 1. Bid-Ask Spread used to calculate the fee charged by the bank Bid = the price at which the bank is willing to buy Ask = the price it will sell the currency

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5 THE SPOT MARKET D. Cross Rates 1. The exchange rate between 2 non - US\$ currencies

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6 THE SPOT MARKET D. Cross Rates (con’t) 2.Calculating Cross Rates (example) Suppose you want to calculate the £/€ cross rate. You know £.5556/US\$ and €.8334/US\$ then £/ € = £.5556/US\$ ÷ €.8334/US\$ = £.6667/ €
7 THE SPOT MARKET E. Currency Arbitrage 1. If cross rates differ from one financial center to

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Unformatted text preview: another, and profit opportunities exist. 2. Buy cheap in one int’l market,sell at a higher price in another 3. The Critical Role of Available Information 8 THE FORWARD MARKET I. INTRODUCTION A. 3 Part Definition of a Forward Contract: an agreement between a bank and a customer to deliver a specified amount of currency against another currency at a specified future date and at a fixed exchange rate 9 THE FORWARD MARKET B. Purpose of a Forward : Hedging the act of reducing exchange rate risk. 10 THE FORWARD MARKET C.Forward Rate Quotations 1. Two Methods: a. Outright Rate: quoted to commercial customers b. Swap Rate: quoted in the inter-bank market as a discount or premium 11 THE FORWARD MARKET CALCULATING THE FORWARD PREMIUM OR DISCOUNT = F-S x 12 x 100 S n where F = the forward rate of exchange S = the spot rate of exchange n = the number of months in the forward contract...
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