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Foreign exchange market is a worldwide linkage of bank currency traders, nonbank dealers, and FX brokers, who assist in trades, connected to one another via a network of telephones, computer terminals, and automated dealing systems.

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The structure of the foreign exchange market is an outgrowth of one of the primary functions of a commercial banker: to assist clients in the conduct of international commerce.

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FX market participants:

International banks

Banks customer

Nonbank dealers

FX brokers

Central banks

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International commercial banks communicate with one another with:

SWIFT

CHIPS

ECHO Exchange Clearing House Limited

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The spot market involves almost the immediate purchase or sale of foreign exchange.

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(1) Direct quotation

◦ the U.S. dollar equivalent

(2) Indirect Quotation

◦ the price of a U.S. dollar in the foreign currency

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A cross-exchange rate is an exchange rate between a currency pair where neither currency is the U.S. dollar.

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Bid price: the price a dealer is willing to pay you for something.

Ask price: the amount the dealer wants you to pay for the thing.

Bid-ask spread: the difference between the bid and ask prices.

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Triangular arbitrage is the process of trading out of the U.S. dollar into a second currency, then trading it for a third currency, which is in turn traded for U.S. dollars.

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A forward contract is an agreement to buy or sell an asset in the future at prices agreed upon today.

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❖ If you have agreed to sell FX forward => you are short.

❖ If you have agreed to buy FX forward => you are long.

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A forward swap transaction is the simultaneous sale (or purchase) of spot foreign exchange against a forward purchase (or sale) of approximately an equal amount of the foreign currency.