The Spot Market

 The spot market involves the immediate purchase

and sell of foreign exchange
 Cash transaction – value today
 Tom transaction – value tomorrow
 Spot transaction – value 2nd working day
 Forward transaction – value future day

0
 Foreign Exchange Transactions

 Transaction is always talked from the bank’s point of view

 The item is referred to is the foreign exchange
 In a purchase transaction the bank acquires foreign
currency and parts with home currency
 A traveler en-cashes at the bank a traveler cheque
 The bank purchases a DD drawn on London
 In a sale transaction the bank parts with foreign currency
and acquires home currency
 The bank issues a DD on London
 The customer of bank purchases a TT on New York
1
 Spot Rate Quotations
 Currency are always quoted in pairs
 According to established convention, first currency in pair
is base currency and second is quote currency
 e.g. USD/INR 53 or as per your text book S(R/$) = 53
 Direct quotation
 Variable unit is home currency and foreign currency is fixed unit
currency. 1 USD = ? INR
 Indirect Quotation
 Variable unit is foreign currency and home currency is fixed unit
currency. 100 INR = ? USD

2
 Spot Rate Quotations (USD home)

USD equiv USD equiv Currency per Currency per

Country Friday Thursday USD Friday USD Thursday
Argentina (Peso) 0.3309 0.3292 3.0221 3.0377
Australia (Dollar) 0.5906 0.5934 1.6932 1.6852
Brazil (Real) 0.2939 0.2879 3.4025 3.4734 The direct
Britain (Pound) 1.5627 1.566 0.6399 0.6386 quote for
1 Month Forward 1.5596 1.5629 0.6412 0.6398
3 Months Forward 1.5535 1.5568 0.6437 0.6423
British pound
6 Months Forward 1.5445 1.5477 0.6475 0.6461 is:
Canada (Dollar) 0.6692 0.6751 1.4943 1.4813
1 Month Forward 0.6681 0.6741 1.4968 1.4835 £1 = $1.5627
3 Months Forward 0.6658 0.6717 1.502 1.4888
6 Months Forward 0.662 0.6678 1.5106 1.4975

3
 Spot Rate Quotations (USD home)

Country
USD equiv
Friday
USD equiv
Thursday
Currency per
USD Friday
Currency per
USD Thursday
The indirect
Argentina (Peso) 0.3309 0.3292 3.0221 3.0377 quote for
Australia (Dollar) 0.5906 0.5934 1.6932 1.6852 British
Brazil (Real) 0.2939 0.2879 3.4025 3.4734
Britain (Pound) 1.5627 1.566 0.6399 0.6386
pound is:
1 Month Forward 1.5596 1.5629 0.6412 0.6398
3 Months Forward 1.5535 1.5568 0.6437 0.6423
£.6399 = $1
6 Months Forward 1.5445 1.5477 0.6475 0.6461
Canada (Dollar) 0.6692 0.6751 1.4943 1.4813
1 Month Forward 0.6681 0.6741 1.4968 1.4835
3 Months Forward 0.6658 0.6717 1.502 1.4888
6 Months Forward 0.662 0.6678 1.5106 1.4975

4
 Spot Rate Quotations

Country
USD equiv
Friday
USD equiv
Thursday
Currency per
USD Friday
Currency per
USD Thursday
Note that
Argentina (Peso) 0.3309 0.3292 3.0221 3.0377 the direct
Australia (Dollar) 0.5906 0.5934 1.6932 1.6852 quote is the
Brazil (Real) 0.2939 0.2879 3.4025 3.4734
Britain (Pound) 1.5627 1.566 0.6399 0.6386
reciprocal of
1 Month Forward 1.5596 1.5629 0.6412 0.6398 the indirect
3 Months Forward 1.5535 1.5568 0.6437 0.6423 quote:
6 Months Forward 1.5445 1.5477 0.6475 0.6461
1
Canada (Dollar) 0.6692 0.6751 1.4943 1.4813 1.5627 
1 Month Forward 0.6681 0.6741 1.4968 1.4835 .6399
3 Months Forward 0.6658 0.6717 1.502 1.4888
6 Months Forward 0.662 0.6678 1.5106 1.4975

5
 Exchange Quotations
 Direct Quote
 Variable unit is home currency and foreign currency is
fixed unit currency
 1 $ = 60 Rs. Or 1 GBP = 95 Rs.
 Buy low and Sell high in two way quote
 Pay lesser units of home currency for a fixed unit of
foreign currency
 Receive more units of home currency for a fixed units
of foreign currency

6
 Exchange Quotations
 Indirect Quote
 Variable unit is foreign currency and home currency
is fixed unit currency
 100 Rs. = 1.66 $ Or 100 Rs. = 1.05 GBP
 Buy high and Sell low in two way quote
 Acquire more units of foreign currency for a fixed
unit of home currency
 Part with lesser units of foreign currency for a fixed
units of home currency

7
 Two Way Quotations
 Buy low and Sell high in Direct quote
 1$ = Rs. 61.1475/1625
 61.1475 is buying or bid rate
 61.1625 is selling or ask rate
 Buy high and Sell low in Indirect quote
 Rs.100 = 1.6350/6354
 1.6354 is buying or bid rate
 1.6350 is selling or ask rate

8
 The Bid-Ask Spread
 The bid price is the price a dealer is willing to pay
you for something.
 The ask price is the amount the dealer wants you
to pay for the thing.
 The bid-ask spread is the difference between the
bid and ask prices.
 Buying rate is known as bid rate and selling rate is
known as ask rate and difference is known as
“Spread”
9
 The Bid-Ask Spread
 A dealer could offer
 bid price of $1.25 per €
 ask price of $1.26 per €
 While there are a variety of ways to quote that,
 The bid-ask spread represents the dealer’s
expected profit.

10
 The Bid-Ask Spread

big small figure

figure
Bid Ask
S($/£) 1.9072 1.9077
S(£/$) .5242 .5243
 A dealer would likely quote these prices as 72-77.
 It is presumed that anyone trading $10m already
knows the “big figure”.
11
 Spot FX trading

 In past foreign exchange transactions were conducted by telephone,

telegram, or telex.
 The latest development in foreign exchange trading is electronic trading
 High speed digital data line and satellite based communication systems
 In conversation, trader use shorthand abbreviations in expressing
currency quote
 In the interbank market, the standard size trade is about U.S. $10
million.
 A bank trading room is a noisy, active place.
 The “long term” is about 10 minutes

12
 Pip and Lot
 A pip is the smallest price increment a currency can make
against another currency
 One pip has a value of 0.0001 if currency is quoted up to
four decimal and 0.01 if quoted up to two decimal
 A pip may seen small, but a movement of one pip in either
direction can result in substantial gain or losses
 The value of pip varies from currency pair to pair
 For example, the pip value for EUR/USD is fixed at 10 $
for standard lot (100000 units), 1 $ for mini lot (10000
units) and 0.10 $ for micro lot (1000 units)
 A lot is standard unit size for FOREX transactions
13
 Cross Rates
 Suppose that S($/€) = .50 (hypothetical rate)
 i.e. 1€ = 0.5$
 and that S(¥/€) = 50
 i.e. €1 = ¥50
 What must the $/¥ cross rate be?
$ $ €
since   ,
¥ € ¥
$0.5 €1 $1
   S ($ / ¥)  .01 or $1  ¥100
€1 ¥50 ¥100
14
 Cross Rates: Chain Rule
 If USD=GBP 0.6156 and GBP=INR 99.3449, on
17/9/2014, what is the price of USD in terms of INR?
1 USD = ? INR
99.3449 INR= 1 GBP
0.6156 GBP = 1 USD
Divide the product of Left hand side equation
by right hand side equation
(0.6156*99.3449*1)/(1*1) = INR 61.1567=1$
15
 Triangular Arbitrage

Suppose we
$
observe these
Barclays Credit Lyonnais
banks posting
USD/GBP=1.50
these exchange USD/JPY=120
rates.

¥ Credit Agricole
First calculate the £
implied cross GBP/JPY=85
rates to see if an
arbitrage exists.
16
 Triangular Arbitrage

The implied cross rate is $

GBP/JPY = 80 Credit Lyonnais
Barclays
USD/GBP=1.50
Credit Agricole has USD/JPY=120
posted a quote of
GBP/JPY=85
¥ Credit Agricole
(overvalued)so there is £
an arbitrage opportunity. GBP/JPY=85
£1.50 $1 £1
So, how can we make money?  
$1 ¥120 ¥80
Buy the £ @ ¥80; sell @ ¥85. Then trade yen for dollars.
17
 Triangular Arbitrage

As easy as 1 – 2 – 3:
$
1. Sell our $ for £, Barclays Credit Lyonnais
USD/GBP=1.50
(Buy £,) USD/JPY=120
3 1
2. Sell our £ for ¥, 2
¥ Credit Agricole
(Buy ¥) £
GBP/JPY=85
3. Sell those ¥ for $
(Buy $)
18
 Triangular Arbitrage
Sell $100,000 for £ at USD/GBP= 1.50
receive £150,000
Sell our £ 150,000 for ¥ at GBP/JPY= 85
receive ¥12,750,000
Sell ¥ 12,750,000 for $ at USD/JPY = 120
receive $106,250
profit per round trip = $ 106,250- $100,000 = $6,250

19
 Practices Question

Banks posting
$
these exchange
rates on 17/9/14 Barclays
Credit Lyonnais
USD/JPY=107 USD/GBP
Find out
=0.6156
Arbitrage
opportunity.
You have 1Lakh
USD ¥ Credit Agricole £
GBP/JPY=175

20
 key
 The product of USD/GBP*GBP/JPY*JPY/USD
is Greater than 1, sell the numerator currencies or
buy denominator currencies

 The product of USD/GBP*GBP/JPY*JPY/USD

is less than 1, sell the denominator currencies and
buy the numerator currencies

21
 One More
Show how can make a triangular arbitrage?
USD/GBP 0.525
USD/AUD 1.303
GBP/AUD 2.400
What rate of USD/GBP can eliminate triangular arbitrage?

22
Spot Foreign Exchange Microstructure
 Market Microstructure refers to the mechanics of
how a marketplace operates.
 Bid-Ask spreads in the spot FX market:
 increase with FX exchange rate volatility and
 decrease with dealer competition.
 Private information is an important determinant of
spot exchange rates.

23
 The Forward Market
 Forward Rate Quotations
 Long and Short Forward Positions
 Forward Cross Exchange Rates
 Swap Transactions
 Forward Premium

24
 The Forward Market
 A forward contract is an agreement to buy or sell
any underlying asset in the future at prices agreed
upon today.

25
 Forward Rate Quotations
 The forward market for FOREX involves
agreements to buy and sell foreign currencies in the
future at prices agreed upon today.
 Bank quotes for 1, 3, 6, 9, and 12 month maturities
are readily available for forward contracts.
 Forward rate may be costlier or cheaper than its
spot rate
 The difference between spot rate and forward rate
is known as “Forward Margin” or “Swap points”
26
 Forward Rate Quotations
 Consider the example from above:
for British Pound, the spot rate is
$1.5627 = £1.00
While the 180-day forward rate is
$1.5445 = £1.00
 What’s up with that?

27
 Spot Rate Quotations

Country
USD equiv
Friday
USD equiv
Thursday
Currency per
USD Friday
Currency per
USD Thursday
Clearly the
Argentina (Peso) 0.3309 0.3292 3.0221 3.0377 market
Australia (Dollar) 0.5906 0.5934 1.6932 1.6852 participants
Brazil (Real) 0.2939 0.2879 3.4025 3.4734
Britain (Pound) 1.5627 1.566 0.6399 0.6386
expect that
1 Month Forward 1.5596 1.5629 0.6412 0.6398 the pound
3 Months Forward 1.5535 1.5568 0.6437 0.6423 will be
6 Months Forward 1.5445 1.5477 0.6475 0.6461
Canada (Dollar) 0.6692 0.6751 1.4943 1.4813
worth less in
1 Month Forward 0.6681 0.6741 1.4968 1.4835 dollars in
3 Months Forward 0.6658 0.6717 1.502 1.4888
six months.
6 Months Forward 0.662 0.6678 1.5106 1.4975

28
 Long and Short Forward Positions
 If you have agreed to sell anything (spot or
forward), you are “short”.
 If you have agreed to buy anything (forward or
spot), you are “long”.
 If you have agreed to sell forex forward, you are
short.
 If you have agreed to buy forex forward, you are
long.

29
 Payoff Profiles
profit
If you agree to sell anything (yen) in
the future at a set price and the spot
price later falls then you gain.

0 S180($/¥)

F180($/¥) = .009524
If you agree to sell anything (yen) in
the future at a set price and the spot
loss price later rises then you lose. Short position
30
 Payoff Profiles
profit
short position
Whether the
payoff profile
slopes up or
down depends
0 S180(¥/$) upon whether
F180(¥/$) = 105 you use the direct
or indirect quote:
F180(¥/$) = 105 or
-F180(¥/$)
loss F180($/¥) = .009524.
31
 Payoff Profiles
profit
short position

0 S180(¥/$)

F180(¥/$) = 105
When the short entered into this forward contract,
he agreed to sell ¥ in 180 days at F180(¥/$) = 105
-F180(¥/$)
loss
32
 Payoff Profiles
profit
short position

15¥

0 S180(¥/$)
120
F180(¥/$) = 105
If, in 180 days, S180(¥/$) = 120, the short will make
a profit by buying ¥ at S180(¥/$) = 120 and
-F180(¥/$)
loss delivering ¥ at F180(¥/$) = 105.
33
 Payoff Profiles
profit
F180(¥/$) Since this is a zero-sum game, the short position
long position payoff is the
opposite of the short.

0 S180(¥/$)

F180(¥/$) = 105

-F180(¥/$) Long position

loss
34
 Payoff Profiles
profit
The long in this forward contract agreed to BUY ¥
-F180(¥/$)
in 180 days at F180(¥/$) = 105
If, in 180 days, S180(¥/$) = 120, the long will
lose by having to buy ¥ at S180(¥/$) = 120 and
delivering ¥ at F180(¥/$) = 105.

0 S180(¥/$)
120
F180(¥/$) = 105
–15¥
Long position
loss
35
 Forward Cross Exchange Rates
 It’s just an “delayed” example of the spot cross
rate discussed above.
 In generic terms
FN ($ / k )
FN ( j / k ) 
FN ($ / j )
and
FN ($ / j )
FN (k / j ) 
FN ($ / k )
36
 Forward Margin
 Forward margin may be either at premium or at
discount
 Forward Premium: foreign currency is costlier
under the forward rate
 Forward Discount: foreign currency is cheaper
under the forward rate
 Under the direct quote:
 Premium is added to spot rate
 Discount is deducted from spot rate

37
 Forward Premium
 It’s just the interest rate differential implied by
forward premium or discount.
 For example, suppose the € is appreciating from
S($/€) = .5235 to F180($/€) = .5307
 The forward premium is given by:

F180 ($ / €)  S ($ / €) 360 .5307  .5235

f180,€ v $     .01375
S ($ / €) 180 .5235

38
 Interpretation of inter-bank quote

 $ is quoted as under on 25th of this month.

 Spot $ 1 = Rs. 61.4000/4200
 Spot February 2000/2100
 Spot March 3500/3600
Where the forward margin for a month is given in
ascending (descending) order as in above quote, it
indicates the forward currency is at premium
(discount)

39
 Interest rate & Forward Margin

 If interest rate is higher at foreign center than the

prevailing rate at home center, forward margin would be
at discount
 If interest rate is lower at foreign center than the
prevailing rate at home center, forward margin would be
at premium
e.g. Spot: 1$=62.00 Rs.,
Interest rate in India 12%, in New York 6%
What would be 3month selling rate to customer for
10000$
40
 Interest rate & Forward Margin
 To meet customer’s requirement bank buy spot $ and
deposit in New York for 3 months
 Purchase $ and invest for 3 mths = 10000 $
+ Interest for 3 mths @6% = 150 $
Receive after 3 months = 10150 $
 Borrow in India to pay for $ = 620000 Rs.
+ Interest for 3 mths @12% = 18600 Rs.
Pay after 3 months = 638600 Rs.
Forward Rate = 638600/10150 = 62.91 Rs.
Forward Premium Point = 0.91 Rs (62.91-62.00)
41
 Merchant Rate

 The foreign exchange dealing of a bank with its customer

is known as merchant business and the exchange rate at
which transaction take place is known as merchant rate.
 Bank do not keep open position
 The inter bank rate on the basis of which the bank quotes
its merchant rate is known as base rate
 Inter bank buying rate forms the basis of quotation of
buying rate by the bank to its customer
 Inter bank selling rate forms the basis of quotation of
selling rate by the bank to its customer
42
 Merchant Rate

 Banks keep sufficient exchange margin into rate to cover

administrative cost, cover the exchange fluctuations and to
get some profit on the transaction.
 The exchange rate is quoted up to 4 decimals in multiples
of 0.0025
 While computing the merchant rate the calculation can be
made up to five decimals and finally rounded off to nearest
multiple of 0.0025
 Rupee amount rounded off to nearest rupee

43
 Types of Rates
 TT (telegraphic transfer) is an order for payment of money
notified through electronic media
 TT buying rate is the rate at which a bank makes payment
for DD or mail transfers drawn on it
 TT selling rate are for issuing DD or mail transfer
 Bank quotes bill buying rate for purchasing a foreign bill
(may be usance or sight)
 Bill selling applies to all transactions where the bank
handles the documents such as payments against the
import bill.
44
 Buying rate

 TT Buying rate
 $/Rs. Market spot buying rate
LESS: Exchange Margin
 Bill Buying rate
 $/Rs. Market spot buying rate
ADD: Forward Premium (for transit and usance: rounded off to
lower month)
OR
LESS: Forward Discount (for transit and usance: rounded off to
higher month)
LESS: Exchange Margin
45
 Selling Rate
$/Rs. Market spot selling rate
ADD: Exchange Margin for TT selling rate
TT Selling rate
ADD: Exchange Margin for Bill selling rate
Bills Selling rate
 Card Rates
 For transaction of smaller value, bank do not
calculate the rates for each transaction separately.
The rate calculated in the beginning of the day are
applied to all transactions
46
 Quiz Time
1. What is FOREX market?
2. Who are the market participants in the foreign exchange
market?
3. How are foreign exchange transactions between
international banks settled?
4. What is meant by a currency trading at a discount or at a
premium in the forward market?
5. What is triangular arbitrage? What is a condition that
will give rise to a triangular arbitrage opportunity?

47
 Quiz Time
The current spot exchange rate is $1.55/£ and the three-
month forward rate is $1.50/£. Based on your analysis of
the exchange rate, you are confident that the spot exchange
rate will be $1.52/£ in three months. Assume that you
would like to buy or sell £1,000,000.
a. What actions do you need to take to speculate in the
forward market? What is the expected dollar profit
from speculation?
b. What would be your speculative profit in dollar terms
if the spot exchange rate actually turns out to be
$1.46/£?
c. Graph your results.

48
 Solution

a. If you believe the spot exchange rate will be $1.52/£ in

three months, you should buy £1,000,000 forward for
$1.50/£. Your expected profit will be:
$20,000 = £1,000,000 × ($1.52 – $1.50)

b. If the spot exchange rate actually turns out to be $1.46/£ in

three months, your loss from the long position will be:
–$40,000 = £1,000,000 × ($1.46 – $1.50)

49
 Solution
profit

$20k

0 S180(£/$)
1.46 1.52
F180(£/$) = 1.50

–$40k
loss
50
 Quiz Time
 Using Exhibit 5.4, calculate a cross-rate matrix for the euro, Swiss
franc, Japanese yen, and the British pound. Use the most current
American term quotes to calculate the cross-rates so that the triangular
matrix resulting is similar to the portion above the diagonal in Exhibit
5.6.

¥ SF £ $ Equivalent
1 Euro 1.3112
100 yen .9498
1 Sw Franc .8470
1 U.K GBP 1.9077

51
 Solution
 The cross-rate formula we want to use is:
 S(j/k) = S($/k)/S($/j).
 The triangular matrix will contain 4 x (4 + 1)/2 = 10
elements.

¥ SF £ $
Euro 138.05 1.5481 .6873 1.3112
Japan (100) 1.1214 .4979 .9498
Switzerland .4440 .8470
U.K 1.9077

52
 Quiz Time
 Assume you are a trader with Deutsche Bank. From the quote screen
on your computer terminal, you notice that Dresdner Bank is quoting
€0.7627/$1.00 and Credit Suisse is offering SF1.1806/$1.00.
 You learn that UBS is making a direct market between the Swiss franc
and the euro, with a current €/SF quote of .6395.
 Show how you can make a triangular arbitrage profit by trading at
these prices. (Ignore bid-ask spreads for this problem.)
 Assume you have $5,000,000 with which to conduct the arbitrage.
What happens if you initially sell dollars for Swiss francs? What €/SF
price will eliminate triangular arbitrage?

53
 Solution
 To make a triangular arbitrage profit the Deutsche Bank trader would sell
$5,000,000 to Dresdner Bank at €0.7627/$1.00. This trade would yield
€3,813,500= $5,000,000 x .7627. The Deutsche Bank trader would then sell
the euros for Swiss francs to Union Bank of Switzerland at a price of
€0.6395/SF1.00, yielding SF5,963,253 = €3,813,500/.6395. The Deutsche
Bank trader will resell the Swiss francs to Credit Suisse for $5,051,036 =
SF5,963,253/1.1806, yielding a triangular arbitrage profit of $51,036.
 If the Deutsche Bank trader initially sold $5,000,000 for Swiss francs, instead
of euros, the trade would yield SF5,903,000 = $5,000,000 x 1.1806. The
Swiss francs would in turn be traded for euros to UBS for €3,774,969=
SF5,903,000 x .6395. The euros would be resold to Dresdner Bank for
$4,949,481 = €3,774,969/.7627, or a loss of $50,519. Thus, it is necessary to
conduct the triangular arbitrage in the correct order.
 The S(€/SF) cross exchange rate should be .7627/1.1806 = .6460. This is an
equilibrium rate at which a triangular arbitrage profit will not exist.
54
 Quiz Time

 On 25th July, your customer has presented to you at sight document for USD
10000 under an irrevocable letter of credit. The letter of credit provides for
reimbursement by the negotiation bank’s own demand draft on the opening
bank at New York.
Assuming US $/ Rupees are quoted in the local interbank market as under:
Spot $1 = Rs. 62.6525/6650
Spot/August 6000/5700
Spot/ September 1.0000/0.9700
Spot/ October 1.4000/3900
Transit period for bill is 20 days what rate wills you quote to your customer
provided you require an exchange margin of 0.15%
Also calculate and show the rupee amount payable to the customer.

55
 Solution
Spot $ Buying Rate: 62.65250 INR
Less: Discount for 1 month: 00.60000
-----------
62.05250
Less: Exchange Margin: 0.15%: 00.09308
------------
Bill Buying Rate: 61.95942
Approx 61.9600*10000$=619600 INR

56
 Quiz
On 8th September, an exporter tenders a demand bill for
USD 100000 drawn on New York. The rates for USD in
the interbank market are as under:
Spot USD 1 = INR 61.2000/2500
Spot/Oct. 6000/7000
Spot/Nov. 8000/9000
Spot/Dec. 1.0000/1000
Transit period is 25 days. The bank requires an exchange margin of
0.10%. Interest on export finance is 10%. The customer opts to retain
15% proceeds in USD. You are required to compute (a) the rate at which
the bill will be purchased by the bank . (b) The rupee amount payable to
the customer. (c) Interest to be recovered from him.
57
 solution
Since the currency is at premium, the transit period will be
rounded off to lower month. (i.e. nil) and rate to the customer
will be based on spot rates.
USD/INR Spot buying rate = 61.20000
Less: Exchange Margin at 0.10%= 00.06120
61.13880
Rounded off to nearest multiple of 0.0025 the rate quoted
would be 61.1400. The rupee payable to customer would be
85000 USD * 61.14 = 5196900
Interest charge will be 10% on 5196900 for 25 days
58
 Quiz
On 26th August an exporter tenders for purchase the bill payable 60
days from sight and drawn on New York for USD 25650. Interbank
quotes are as under:
Spot $1 = Rs. 61.6525/6850
Spot/ September 1500/1400
Spot/ October 2800/2700
Spot/ November 4200/4100
Spot/ December 5600/5500
Exchange Margin is 0.10% and Rate of Interest 10%
Out of pocket expenses Rs. 500 to be recovered from customer.
What will be the exchange rate to be quoted and the rupee amount
payable to him?
59
 solution
 The notional due date is (60+25) 85 days from 26th August. That is 19th November
 Note that transit period is 25 days (Guideline)
 Since the USD is at discount period will be rounded off to higher month i.e. end Nov.
Spot $ Buying Rate: 61.65250 INR
Less: Discount for Nov. month: 00.42000
-----------
61.23250
Less: Exchange Margin: 0.10%: 00.06123
------------
Bill Buying Rate: 61.17127
Round off to 61.1725*25650$=15,69,075 INR Less (Int. 10% for 85 days and 500 Exp.)

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 Quiz
 On 12th February an importer receive a bill for
10000 USD. He asks his bank to retire the bill to
the debit of his account. Interbank rate is as under:
Spot USD/INR 61.7050/7200
Spot /March 5000/4500
 The bank retain the exchange margin at 0.15% for
TT sales and 0.20% for Bill selling rate. With
what amount will it debit the importer’s account?

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 Solution
The bank is to quote the bills selling rate to the customer based on market
selling rate.
Spot $ Selling Rate: 61.72000 INR
Add: Exchange Margin 0.15% for TT sale 00.09258
-----------
61.81258
Add: Exchange Margin 0.20% for Bills sale 00.12363
------------
Bills Selling Rate: 61.93621
Round off to 61.9350
 Customer account will be debited for 10000USD*61.9350

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 Quiz : cross rate
A customer request the bank to purchase a 30 days sight bill for CHF 500000.
Interbank quotes are as under:
Spot USD / INR 49.2800/2875
One month forward 1700/1750
Tow month forward 3500/3550
Three month forward 5500/5550
Swiss Francs are quoted in Singapore market as under:
Spot USD / CHF 1.4250/4375
One month forward 50/55
Tow month forward 105/110
Three month forward 155/160
What rate will the bank quote if Exchange Margin is 0.10%

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 Solution
The usance and transit period total is 55 days. And USD is at premium
Spot $ Buying Rate: 49.28000 INR
Add: Premium for one month (round off to lower): 00.17000
-----------
49.45000
Less: Exchange Margin: 0.10%: 00.04945
------------
Bill Buying Rate for USD: 49.40055
 In the USD/CHF quote, USD is at premium, In this case since USD selling rate is taken,
55 days will be round off to higher period i.e. 2 months
Spot USD/CHF selling rate: 1.4375 CHF
Add: Premium for two months 0.0110
1.4485
Bill Buying rate for CHF (49.40055/1.4485) = 34.1046 Round off to 34.1050
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 Quiz Time
 The USD is quoted at AUD 1.1197/2135 and the
GBP is quoted at AUD 2.1920/2500.
 What is the direct quote for USD against GBP and
GBP against USD?

65
 Solution
Sell 1 USD at Bid rate for 1.1197 AUD
Sell 1.1197 AUD and Buy GBP at Ask rate of 2.2500 AUD
That means 1.1197/2.2500 = 0.4976 GBP for 1 USD -----Bid rate

Buy 1 USD at Ask rate of 1.2135 AUD

To buy these AUD we need to sell GBP at Bid rate of 2.1920 AUD
That means 1.2135/2.1920 = 0.5536 GBP for 1 USD------Ask rate

So the quote for USD is 0.4976/0.5536 GBP and Vice versa

66
 Alternatively
USD/AUD 1.1197/2135 & GBP/AUD 2.1920/2500
AUD/GBP 1 upon 2.2500 / 1 upon 2.1920
So
USD/GBP bid = USD/ADU bid * AUD/GBP bid
USD/GBP bid = 1.1197*1/2.2500 = 0.4976
And
USD/GBP ask = USD/ADU ask * AUD/GBP ask
USD/GBP ask = 1.2135*1/2.1920 = 0.5536
So quote will be USD/GBP 0.4976/5536
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 Quiz Time
Find Out which currency is at Premium/Discount
in forward market. Also calculate annualized
percentage of Premium/Discount
S (Rs/$) = 43 F30 days (Rs/$)= 43.75
The following quotes are obtained.
Calculate Forward rates.
 Spot : 1$= 1.5880/90 DM
 1 month : 10/05
 2 months : 20/10
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 Solution
 (F-S)/S*360/30
 = (43.75-43)/43*360/30
 = $ is at 20.93% premium

 Forward rate: 1 Month 1.5870/85 and 2 month

1.5860/80

69
 Case Study
Shrewsbury Herbal Products Ltd.

Please read the case

70
 Case Study : Shrewsbury Herbal
 Suppose Shrewsbury sells at a twenty percent markup.
 Thus the cost to the firm of the £320,000 order is £256,000.
 Thus, the pound could appreciate to €465,184/£256,000 = €1.8171/1.00 before
all profit was eliminated.
 This seems rather unlikely.
 Nevertheless, a ten percent appreciation of the pound (€1.4537 x 1.10) to
€1.5991/£1.00 would only yield a profit of £34,904 (= €465,184/1.5991 -
£256,000).
 Shrewsbury can hedge the exposure by selling the euros forward for British
pounds at F3(€/£) = F3($/£) ÷ F3($/€) = 1.8990 ÷ 1.3154 = 1.4437.
 At this forward exchange rate, Shrewsbury can “lock-in” a price of £322,217
(= €465,184/1.4437) for the sale.
 The forward exchange rate indicates that the euro is trading at a premium to
the British pound in the forward market.
 Thus, the forward hedge allows Shrewsbury to lock-in a greater amount
(£2,217) than if the euro receivable was converted into pounds at the current
spot
71
 Case Study : Shrewsbury Herbal
 If the euro was trading at a forward discount, Shrewsbury would end up
locking-in an amount less than £320,000.
 Whether that would lead to a loss for the company would depend upon the
extent of the discount and the amount of profit built into the price of £320,000.
 Obviously, Shrewsbury could ensure that it receives exactly £320,000 at the
end of three-month accounts receivable period if it could invoice in £.
 That, however, is not acceptable to the French wholesaler.
 When invoicing in euros, Shrewsbury could establish the euro invoice amount
by use of the forward exchange rate instead of the current spot rate.
 The invoice amount in that case would be €461,984 = £320,000 x 1.4437.
Shrewsbury can now lock-in a receipt of £320,000 if it simultaneously hedges
its euro exposure by selling €461,984 at the forward rate of 1.4437. That is,
£320,000 = €461,984/1.4437

72