CHAPTER 5 - THE MARKET FOR FOREIGN EXCHANGE (FX)
Money represents purchasing power (JS Mill: "There is nothing more insignificant than money"), but
usually only in one country. ¥, £, or € have no purchasing power in U.S. Exchanging one currency for
another takes place in the FX market (converting purchasing power from one currency into another).
FX is world's largest financial market in world. Daily trading is about $4 trillion or $2000 billion
($300 per person) vs. $120 billion per day in U.S. stocks. FX market trading has increased in recent
FX traded 24/7/365. Three major areas: Australasia (Sydney, Tokyo, Hong Kong, Singapore), Europe
(London, Paris, Amsterdam, Frankfurt) and N. America (NY, Montreal, Toronto, SF, Chicago, LA,
etc.) Due to time zone differences, trading takes place 24 hours/day, see Exhibit 5.2 on page 110
(Electronic trades per hour).
Most trading rooms operate 9-12 hour days. Trading volume is high when the N. America and Europe
markets overlap (early in the day in U.S.) and late in the day in Asia when the European market is
Two largest trading centers: 31% of daily trading volume in London/UK ($753B daily), and 19% in
U.S. ($461B daily), see Exhibit 5.1, p. 109, and see the NY Fed article here:
FX actually covers spot currency markets, forward currency markets, currency options, currency
swaps, currency futures, foreign trade financing and credit arrangement, etc. This chapter covers spot
and forward markets only.
FUNCTION AND STRUCTURE OF FX MKT
FX markets are part of Commercial Banking activities, assisting corporate clients/MNCs to conduct
international commerce. Banks provide the service of buying/selling foreign currency for commercial
customers, e.g. importers who are buying foreign products and need to buy foreign currency with $, or
exporters who are receiving foreign currency and need to sell foreign currency for $.
FX is an OTC (over-the-counter) market, like NASDAQ. How does OTC differ from non-OTC??
FX OTC: Int'l. network of bank currency traders, nonbank dealers, FX brokers, linked by computers,
phone lines, telex machines, automated quotation systems, etc. The communication system of FX
dealers is extremely advanced, sophisticated and reliable.
FX MARKET PARTICIPANTS
MGT 566: International Finance – CH 5
Professor Mark J. Perry