The spot exchange rate is the rate at which two currencies can be exchanged for immediate delivery
(today). In practice, the spot exchange rate is agreed immediately but the actual transaction doesn’t take
place until sometime in the near future (e.g. two business days later).
Spot exchange rates are quoted in three major currencies on FT - UK Sterling, US dollar and Euro.
Exchange rates are usually presented in a way that shows the amount of counter currency you can get for
1 of quoted currency.
Example: (FT, 6 Dec 2019)
C$/£ = 1.7344 Can exchange £1 for C$1.7344
SFr/£ = 1.300 Can exchange £1 for SFr1.300
C$/SFr cross-rate can be calculated C$/SFr = 1.7344/1.300 = 1.3342 (no. of Canadian dollars for 1
swiss franc)
FORWARD EXCHANGE RATES
Forward exchange rates are pre-determined exchange rates for delivery at a future date.
Companies that are based in one country but sell products in another country often use forward exchange
rates. Locking-in the exchange rate by using forward rates helps to mitigate currency risk and also helps
them determine future sales in their domestic currency.
An advantage of using forward rates is that the company can tailor the terms of contract: when they plan
to sell and how much they plan to sell. However, the disadvantage is that it is hard to negotiate changes in
the contract once it is binding - less flexible for the company.
Companies may therefore use currency futures which are exchange traded (more liquid). However, while
it is easier to change position, the exchange rate may not be what the company wants.
Nowadays, the difference between forward spot rates and futures is much smaller. Why? Why do rates of
different time periods vary in the way they do?
INTERNATIONAL MONEY MARKET RATES
The international money market is a market where international currency transactions between numerous
central banks of countries are carried on.
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